Greg Sandoval is one of the great reporters on tech and music. While I don’t always agree with him, I think he’s fair and one thing I know for sure–he is old school when it comes to getting facts and sources right. So when Sandoval says Spotify is going back to the well to drive down artist royalties even further, you better believe that I believe him.
According to his story at the Verge:
About 70 percent of Spotify’s revenues pays music-licensing fees while another 20 percent covers customer acquisition, these sources said. That leaves 10 percent to pay all of the company’s other costs, including its much praised technology platform. Insiders have told The Verge that this cost structure zeroes out Spotify’s profits.
So brace yourself–Spotify is about to do a Pandora-style argument about how artists should take even less because Spotify’s “profits” are consumed by royalties. (And yes, I do know that Spotify doesn’t pay most artists directly, but I also know that the reason that Adele held back her records from Spotify wasn’t because Beggars or its US distributor Sony weren’t making enough money.)
Since You Brought It Up
Since Spotify has put its profits at issue, then let’s discuss those profits. The good thing about Pandora is that it’s a public company. So when Pandora asks artists and songwriters to take less, the creators can look up the CEO’s salary (around $750,000) and can see that Tim Westergren is cashing out of Pandora stock to the tune of about $1 million a month. Just to be clear, I don’t mind at all if Westergren makes bank on the company’s stock. That’s they way it’s supposed to be in a free market, entrepreneurs should be rewarded. That $750,000 salary though…again, none of my business if the stockholders approve it, but it is my business if Pandora pays too much in executive comp and wants to take it out of royalties.
Spotify is a private company, and so we don’t really know what they pay their executives–but something tells me they’re not wanting for much. Why? Because Daniel Ek (Spotify founder and CEO) has a net worth of $310 million (or had) and showed up on the Sunday (London) Times 2012 Rich List as the 10th richest person in the music industry.
So since Spotify seems to be putting its profits at issue, perhaps they also need to be transparent about exactly why they make so little money. Do they have to disclose their executive compensation? Certainly not. But artists don’t have to agree to participate in the charade…sorry…license their music, either. And after all, Spotify are the ones who brought up profitability.
Maybe Their Management Team Is Incompetent
Given all the goodies that Spotify is rumored to have gotten from the labels and publishers, why is it that they are not doing better? Particularly given their spectacular valuation–while it dropped from $4 billion to $3 billion after the Facebook and Zynga IPO debacles, it’s still $3 billion. For a company whose sole product is distributing other people’s music.
And let’s not forget–this is an Internet company. Feeling a little bubbly down in the tummy, maybe? It’s still probably overvalued at $3 billion–as Peter Kafka put it in All Things D:
Investors already know what a digital subscription business looks like at scale.
That would be Netflix, which has some 27 million subscribers at around $8 a month….Netflix has a market cap of $4.3 billion.
Spotify says it has 4 million paying subscribers at around $10 a month. Bear in mind that if you value Spotify at $4 billion today, you’re really saying it will be worth three times that — $12 billion — in a few years, when it would presumably go public.
The two companies aren’t exactly analogous — Spotify, for instance, also has a nascent advertising business — but they sure look similar from a distance. They’re both international, they’re both dependent on rights deals for their content and they both face the perpetual threat of competition from the likes of Amazon, Apple, etc.
So even at $3 billion, Spotify backers will need to work hard to explain why their digital subscription business is worth so much more than Netflix when it comes time to IPO.
Notice–no crocodile tears from Netflix about mommy saving them from their royalty obligations.
Or Maybe It’s About Brand Sponsored Piracy
There’s another way to look at both Pandora and Spotify’s profitability problems–even discounting the grotesque executive salaries. Both are dependent on advertising, and both offer advertisers a shot at music fans. Just like the illegal bit torrent sites that major brands buy advertising from.
Imagine if that illegal inventory wasn’t available? I think there’s at least a plausible argument based on supply and demand that those advertisers would be buying advertising from legitimate services like Pandora and Spotify in even greater quantities. Perhaps at higher prices, which is what one would expect.
Is Google shedding any tears over Pandora and Spotify suffering from the ads that Google serves to pirate sites? Not really. Lower royalties help Google in its quest to commoditize all culture. If Google can drive down royalty rates by selling advertising to pirate sites and driving traffic to those sites from search–while skimming ad revenues away from legitimate sites–all the better for them, right?
The Most Important Man in Music Has Never Made a Record
What I think should happen here is that Spotify should put its books out into the public. After all, as Forbes told us, “Spotify’s Daniel Ek [is] The Most Important Man In Music”. How did we ever get along without him?
Maybe Mr. Ek would like to open his books and show us all what we’re doing wrong? And why we need to help him make a profit so he can say on the rich list.
Music Technology Policy 
Good read, thanks! I just have no pity for poor little mr. ek.
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Hi Chris, I’m not an employee or an apologist for Spotify – I’m a journalist covering the industry – but some elements of this piece bothered me.
The first is about Spotify opening its books. It does publish annual financial results over here in Europe, they’ve been reported on widely in Sweden (and even in the Wall Street Journal last year, I think).
Second, as I understand it, that rich-list valuation is based on two things: first, Ek sold his previous startups, so he had a certain net worth before starting Spotify. Second, the rich-list figure is based on the entirely-notional valuation of Spotify IF it goes public or is sold. It’s made-up wealth for now!
I do see the view that by reducing its royalty commitments, Spotify’s valuation will rise and thus its execs/investors will be richer if and when it does go public / get bought. But I don’t think there’s a widespread view at all that the company’s CEO is trousering a huge salary.
But third is more the tone of the debate around this. If the aim is for Spotify and other digital services to deliver meaningful income for artists in both the short and long term, there does need to be a frank debate about how their royalty commitments should be structured.
Is 70% of their revenues about right? Should they pay more or less? How should that money flow to artists and songwriters, and what can Spotify do to improve transparency?
Starting from a point of view of ‘well, they’re a technology company wanting to pay less so it must be because they want to screw artists and enrich themselves’ feels like drawing the battle lines prematurely, in this case.
I think your point about illegal ad inventory is really important, and I agree artists should be at the centre of these debates around digital business models, rather than trusting rightsholders and technology firms to hold their best interests at heart.
It just feels that the tone should be more ‘How can their business model evolve so it works for everyone?’ and less ‘Look! They’re trying to screw you again just like all those other tech guys!’
The assumption of ill-will and the polarisation of the music/tech debate right now feels ultimately destructive for both sides.
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Stuart, I think I have failed to make what I believe is the most important point with Spotify, Pandora, all of the music tech companies that want you to look at the bright and shiny object of paid royalties as a percentage of “profits” as though that was how royalties were calculated. That is not. (Note–I did not say all tech companies, just a certain group.)
Spotify’s label royalties are calculated as a percentage of a version of net revenue–not profits, but revenue. I would be absolutely thrilled if Spotify’s royalty load–calculated on a reduced version of revenue–was 1% of their profits. That would be awesome. That would say to me that the company was able to keep operating costs down and revenues up.
Reporting financial results and disclosing the salaries of control group executives is not the same thing. Pandora is compelled by law to do both because they are a public company. I don’t think that the law should compel Spotify to disclose that information, but if they want to have a candid conversation about paying artists and songwriters even less than the $0.002 per stream or so that artists get now, then they should not be surprised if artists want to know why the company is having such problems controlling its costs.
Spotify (and Pandora for that matter) is, in a sense, asking artists and songwriters to invest in their future. So why doesn’t Spotify treat the artists like any other investor and explain why they are having difficulties. Never fear, though, they won’t do that.
Let’s say things look up for the company. Do you think that Spotify will ever come forward and say that they will bonus the artists because they had a good year? Like a dividend? Never.
What we know is that the already absurdly low royalties will always be a downward spiral unless we draw the line right here, right now.
And why does Spotify want lower royalties to make profits look higher? Because they intend to IPO and then Daniel Ek and all the other stockholders will cash out. As they should. Nothing wrong with that. Just look at old “million a month” Tim Westergren. That’s capitalism. But it is also capitalism to get paid for your inputs, particularly when the only product Spotify has is other peoples music they do nothing to produce. And do everything to cannibalize, if you believe the many artists and labels who want nothing to do with the company.
So to your point about tone–they are trying to screw the artists. Apple doesn’t. Rhapsody doesn’t. Microsoft doesn’t. Rdio doesn’t. Where is it written that we all have to bend over so that Spotify can get a huge valuation so their executives and VCs can cash out when these other companies manage to get along?
And surely you are not serious about “tone”? Exactly how is that reciprocated? Lars Ulrich, Lily Allen, David Lowery, Elton John, Don Henley…they were all treated so well.
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