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MTP Podcast: Spotify’s Direct Public Offering

January 10, 2019 Comments off

 

Chris Castle explains Spotify’s direct public offering (compared to a traditional IPO) and commentary on how the stock is performing (NOT investment advice).

According to the Spotify Case Study:

As of March 28, 2018, the average first-day return for 2018 IPOs was 13.2%. [4] On April 3, 2018, when Spotify opened for trading on the NYSE, the NYSE’s initial reference price that was published to the market pre-trading was US$132.00 per share the opening price of the shares was US$165.90 per share, or approximately 25.7% higher than the NYSE reference price. Trading in Spotify’s shares closed at a price of US$149.01 per share, which was approximately 10.2% below the opening price and 12.9% above the reference price….Spotify disclosed recent high and low sales prices per share in recent private transactions on the cover page of the preliminary prospectus and the final prospectus [to arrive at the reference price of $132].

Spotify Buyback

Spotify Case Study: Structuring and Executing a Direct Listing 

MusicTech Solutions: Why Will Spotify’s Price Tank?

Barrons: Spotify Stock Is Up This Year, but Analysts Say Don’t Get Too Excited

Spotify stock, up almost 6% this year, have dropped about 27% in the last 3 months, more than twice as far as theS&P 500’s decline.

On Monday, Stifel’s John Egbert reiterated a Buy rating on the stock, while lowering his target price to $170 from $210. That’s in part based on his estimate of the fair value of its stake inTencent Music Entertainment (TME). But he also trimmed some margin estimates based on the likely costs of global expansion.

“We remain bullish on Spotify’s subscriber growth prospects and believe the company could deliver upside to our 2019 subscriber addition forecast of 24 million, particularly if newly (and soon-to-be) launched markets become material,” Egbert wrote.

Deutsche Bank ’s Lloyd Walmsley maintained a Hold rating on the shares, cutting his price target to $135 from $152 in a Sunday note. Nomura Instinet’s Mark Kelley, meanwhile, wrote Sunday that Spotify was “among the most oversold stocks in our coverage.”

Spotify SEC Ruling on Reference Price for SPOT shares

$20 Million a Month Daniel Ek Shows “Million a Month” Tim Westergren How It’s Done

October 16, 2018 Comments off

Remember when we were all appalled that Pandora founder Tim Westergren was making $1,000,000 a month from selling Pandora stock while he was behind fighting songwriters in rate court for ASCAP and BMI royalties and stiffing artists with the Internet Radio Fairness Act and refusing to pay pre-72 artists?  And then there was the 13 bathroom house in Marin.  It was all a bit hard to stomach.

According to Jem Aswad in Variety, Daniel Ek is putting Westergren in the rear view mirror for sheer excess.  Based on SEC filings made available to a Swedish publication (probably SEC Form 4):

….Ek sold 336,213 shares $61.7 million worth of stock between July and September, and late last month signaled his intent to sell another $69.9 million sold in July–September for a total of $61.7 million.

So a little over $20 million a month, and it appears that when added to the shares he already sold and will sell, Ek should gross more than all the songwriter class action settlements combined.

“Daniel will sell a small share of Spotify shares in the next nine months as part of his long-term financial strategy. This sale of shares will constitute a minimal part of his holding in the company,” Spotify rep Sofie Grant told the [Swedish] paper. Ek and Lorentzon declined comment.

Of course, it remains to be seen how Spotify does with the several individual infringement lawsuits in Nashville and the Wixen Music Publishing lawsuit in Los Angeles. (Spotify recently lost a motion to dismiss against Bluewater Music represented by attorney Richard Busch, see Order Denying Motion To Dismiss For Lack Of Standing And Failure To State A Claim, Sept. 29, 2018, Bluewater Music Services Corporation, Inc. v. Spotify USA Inc.,  Case No. 3:17-cv-01051 (D.C. W.D. Tenn.) (2017), which also happens to be a great lesson in copyright law by the judge.)

So–Mr. Ek could spend his money on building an effective licensing operation, but….nah….Sounds like Mr. Ek is a man in need of yet another safe harbor, right?

Here Come the SPOT Analysts

April 22, 2018 Comments off

It’s still very early days for stock analysts to reach a consensus about Spotify except for one thing–royalties are too damn high.  We have, of course, heard this one before–remember Pandora?  When Tim Westergren was cashing out his stock to the tune of $1 million a month and the company was wasting money hand over fist, the problem, you see, was those greedy artists and songwriters.

Spotify has been making the same argument for years without much care for their overhead and executive compensation.  Daniel Ek, for example, traded a high base salary for a $1 million bonus if he hit four performance targets–he hit three of the four and got his bonus anyway.  (SPOT F-1 at p. 133: “In February 2018, our board of directors determined to pay Mr. Ek the full $1,000,000 bonus based on the Company’s 2017 performance though certain performance goals were not achieved…”)  You know, just like when you promise a club owner that you’ll draw 100 people and you only draw 75.  They always pay your guarantee anyway, right?

But the analysts are starting to crunch numbers and here’s a few infographics from Simply Wall Street, a site I like a lot that started its Spotify coverage.

SPOT Share Value

This graph suggests that a fair value for Spotify stock would be closer to $85 rather than the overvalued price point of $158.45 where the shares closed on Friday.  One implication  of the inflated share price is that the direct listing strategy Spotify devised to offer shares to the public may be artificially propping up the price since most of the sellers will be “insiders” broadly defined.  If it turns out that a meaningful number of shares in the very low volume of shares changing hands is automated trading, that could help to explain why volume is low and shares are trading in a narrow price range.

Price Value

Not surprising that SPOT is significantly overvalued based on the value of its assets by comparison to the Internet industry average as well as the market overall.

SPOT Debt Service

And then there’s the debt.  Red ink as far as the eye can see.

In fairness, analysts do project significant revenue growth from Spotify as in this chart:

SPOT Growth

But note that revenue doesn’t start to convert into earnings growth until about 2021.  Which is fine as long as the company makes it to 2021.

My hunch is that it is this inflection point that will be leverage for cramming down royalties.  One thing seems certain–the current downward trend in royalty rates from Spotify is not going to turn around.  If anything, it will probably accelerate.

So remember that Wall Street’s argument is that the lower the royalties, the better for Spotify.  Wall Street is unlikely to ever say the lower the rent, or the lower the executive compensation, or the fewer loss making country operations the better for Spotify.  It will be a while before we see the insider trades that will tell you how much Mr. Ek has profited from his money losing company that is filing mass NOIs by the tens of thousands of songs, but we will find out soon enough.  My bet is that it will put old “million a month” Tim Westergren to shame.

Of course, Amazon is also a poor value by these metrics, doesn’t pay a dividend, but also has significant growth expectation.  There’s another way that Spotify is similar to Amazon.  Jeff Bezos’s core business philosophy is “Your margin is my opportunity.”

So don’t be surprised if Mr. Ek is coming after your margin just like Amazon did in one of the great income transfers of commercial history.

Spotify IPO Watch: Making it Up on Volume or See SPOT Run

April 18, 2018 Comments off
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It’s still early days for the Spotify public offering (more correctly called a “DPO” for “direct public offering” but since no one knows what that means, I used IPO in the headline).  But sure as a $50 handshake, interesting patterns may be developing in the basic trading elements of price and volume, courtesy of Yahoo Finance:

SPOT 4-18-18

Remember that the “direct listing” was supposed to confer various benefits to Spotify.  You know, that old canard about saving money on underwriter fees, the evil “bankers” who everyone hates, right?

But look at this chart and ask yourself if this behavior bears any resemblance to what a “normal” underwritten IPO would behave like.  I would offer that what this chart behaves like is something else–the preferred stock of a takeover target following a tender offer when preferred holders already know what the price is ultimately going to be for for their shares.  In that scenario, there is a price that is not set by traders of the shares that the shares revolve around reflecting a risk that gets lower every day closer to the closing of the transaction.

The point of the analogy being that traders already know the ultimate price they will get for their shares.  So you see low volume and a price fluctuation around a range.

In the case of Spotify, the opening price was set by a manipulation of a special ruling by the Securities and Exchange Commission that allowed Spotify to use its last trade as a private company for its first trade as a public company–as though there were some connection between these things.  There really isn’t much of a connection.  You can’t say there’s no connection, but there are so many distortions in the price and valuation of this particular private company (Tencent, large convertible debt, down round avoidance, no insider lockups, etc.) that there isn’t a whole lot of connection between the private and public valuation.

By setting its IPO price at $165.90 and a relatively small number of shares in its “float“, it was entirely predictable that Spotify would trade at a low volume at that price range (even though it closed down 20 on its first trading day).  Despite the customary restrictions on insider selling not being in place (the “lockups”), there still have to be buyers to match to the sellers.  At a $100+ price point for a company that lives high on the hog while losing the stockholders money hand over fist, it’s clear that Spotify is not directing its shares at a retail customer who will ask one question.

What do I sell to buy SPOT?  The answer–in a world where you can buy a share of Apple for roughly the same price on a down day–probably nothing.  Which I think is a fair explanation of why SPOT volume is so low.  An absence of buyers, especially retail buyers.

One other measurement of sentiment:  Short selling.  With a low number of shares trading and no underwriting syndicate, there are fewer places to go to borrow the shares.  Although put options at a $100 strike price are already available.

As you can see from the chart, after the first week of trade, the volume has settled into a pattern of approximately 1.5 million shares trading daily.  Whether these are real traders, market making activity by the company’s insiders or some combination remains to be seen.  But at this rate, it’s going to take a very long time for insiders to sell their shares.

Of course, if anyone wanted to sell a block of shares, all they’d have to do is price the shares at a lower share price, which might cause trading to pick up at a more realistic price point.

But anyone who did that would probably not be too well received around the kale bar or whatever is is they have at Spotify.  Because it sure seems that all the Spotify insiders, like the takeover’s preferred holders, already know the price they are expected to sell at. Or maybe they just know something we don’t.

Time will tell but it’s worth watching.  For a lot of people.

 

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Spotify IPO Watch: Buy High, Sell Low — Music Tech Solutions

March 28, 2018 Comments off

Is Spotify’s unusual “DPO” approach and bizarre $132 selling price simply a way for insiders to short the stock? See SPOT run! Run SPOT run!

Here’s an interesting anecdote about that imminent Spotify stock offering.  Remember, Spotify is rumored to price at $132 per share based on private market trades (on a split adjusted basis, I guess).

If the Spotify “DPO” actually does trade at $132, it will probably be the highest valued IPO stock ever.  Dropbox, for example, priced at $21 and closed at $28.48 on its first day of trading.  Facebook priced at $38, Google at $85, Alibaba $68, Amazon was $18.  So Spotify will have to be pretty special to actually trade at $132 on the public market.

It’s good to remember that most of these comparisons had what’s called a “full commitment underwriting” where the company issues new shares that are purchased by an underwriting syndicate and then resold to the public.  Spotify will issue no new shares.  So–one would surmise that the only ones selling will be those who already hold Spotify shares that have been allowed to be sold on the public exchange.  That appears to mean the shares that will be trading will be the insiders (or mostly the insiders), with no restrictions on which of those insiders can sell on the first day of trading.  (Most IPOs have a restriction (called “lockup agreements”) on when employees can sell their shares to avoid a rush for the exits.)

I happened to be chatting with two sophisticated investors in recent days, one from a hedge fund and the other an entrepreneur who has taken a couple companies public.  Both of them had the same reaction after we talked through Spotify’s competitive position and some of the disclosures in Spotify’s SEC Form “F-1”.

Let’s start with Spotify’s description of who it counts as a subscriber:’

We define Premium Subscribers as Users that have completed registration with Spotify and have activated a payment method for Premium Service. Our Premium Subscribers include all registered accounts in our Family Plan. Our Family Plan consists of one primary subscriber and up to five additional sub-accounts, allowing up to six Premium Subscribers per Family Plan subscription. Premium Subscribers includes subscribers who are within a grace period of up to 30 days after failing to pay their subscription fee.

If you think that a paid subscriber means a subscriber who paid, you’re probably not wild about this definition, and both my friends thought it was not only a meaningless number but also was deceptive.  My guess is that it conservatively overstates “Premium Subscribers” by about 20% given the number of freebies that Spotify hands out.  We were all actually surprised that the Securities and Exchange Commission allowed Spotify to get away with this kind of disclosure as the definition is buried in a footnote.  Neither friend had noticed it, and these were people who are too smart to miss these things normally.

Then there was a discussion about that New York real estate–Pandora is certainly learning its lesson about sky high overhead and is migrating gradually to Atlanta.  I’ve always been mystified why money losing companies like Spotify get away with locating in some of the highest priced real estate in the world–San Francisco and Manhattan.  And also get away with complaining about royalties instead of rents.  Rather than the labels rewarding them based on subscribers, why not reward them based on subscribers if and only if they also lower their overhead (called SG&A) by a certain percentage.

Both conversations ended with a discussion of the 10 second MBA–buy low, sell high.  This is what you do with a long position in a stock.  In Spotify’s case, we were discussing another kind of position, a short position.  Short selling reverses the equation–buy high, sell low.

This is because the short seller is betting that the stock will trade lower, and usually considerably lower, than the price at the beginning of the short seller’s round trip.  In brief, what happens with short selling is that you borrow the shares from someone who holds them.  You get to borrow them for a fixed period of time.  You then sell those borrowed shares at the then-current market price.

short_sell_example

Because your bet with “directional” short selling is that the shares will decline in value over time after that initial sale of the borrowed shares, you then essentially use the proceeds from the sale of the borrowed stock to purchase the shares before your short period expires.  You then return the borrowed shares after you buy them back.

Sometimes you can make a fortune selling short (which doesn’t require shorting stocks, see George Soros shorting the UK pound stirling and The Big Short).  Of course, it can go the other way, too, and result in a short squeeze if the price of the shorted stock increases and short sellers have to “cover” at a higher price than they sold the borrowed shares so they can return the borrowed shares and not default.

“Short interest” is a published number and can be used as a measurement of market sentiment about a particular stock.  It’s the aggregated number of shares of a stock that have been sold short but haven’t been closed out or “covered.”  (Similar to the “put to call” ratio in options trading.)  So it was a bit remarkable to me that both these friends said they’d probably short Spotify as soon as they could.

That’s an interesting question–when could the Spotify stock be shorted.  In order to short, there must be some inventory of shares available to borrow and trade such as from a brokerage house (who can lend the shares from clients’ margin accounts, for example).  Typically, underwriters of an IPO are not allowed to short their IPO stock for 30 days or so.  However, there is no such restriction on retail investors–and Spotify has no underwriters.

Therefore, there may be no restriction on when the Spotify insiders can short Spotify stock.

And if my anecdotes are any guide, it certainly does look like there will be a market for short sellers.  One could even say that insiders seeking to short Spotify shares are simply acting prudently to protect their downside, not unlike a “collar” or other hedging transaction.  This will be particularly true if there is a real run on the exits and early investors or other holders (like the senior management team) start selling right away given they have none of the usual lockup agreements or restrictions on trading as far as I know.

In the words of one of the friends, the shorting will begin at 9:31 on the first day of trading.  As someone who knows the importance of a few seconds in the world of automated trading, I believe him.

 

 

via Spotify IPO Watch: Buy High, Sell Low — Music Tech Solutions

You Can’t Find What You Don’t Look For: @theDavidCrosby Gets Screwed Twice by Big Tech

March 9, 2018 Comments off

From Spotify’s F-1:  “Spotify was founded on the belief that music is universal and that streaming is a more robust and seamless access model that benefits both artists and music fans.”

Now bend over for that truly seemless access.

David Crosby is one of the most influential musicians, songwriters, vocalists and performers of his generation.  From The Byrds to Crosby, Stills, Nash & Young, to his duo with Graham Nash and his solo work, David Crosby is truly one of the most gifted artists you will ever encounter.  If you don’t know his work, he’s not hard to find–start with the move Woodstock and go from there.  And, of course, his music is readily available on any streaming service or the decade-themed channels on SiriusXM.

But David Crosby has a problem–he recorded much of his seminal work in the wrong year for the digerati and for the warm hearted folk like Jim Meyer at SiriusXM, Tim Westergren while at Pandora, the Digital Media Association and the MIC Coalition who oppose treating pre-72 recordings like all others for digtial sound recording performance royalties.

So David gets screwed on the sound recordings.  Not being content with one sleazeball move, Spotify, Google, Amazon and iHeart also screw him on his songs by filing “address unknown” notices with the Copyright Office.  (And, it must be said, the Copyright Office gets their licks in, too, by allowing this to happen.)

Here’s a run on David Crosby’s recordings for which these monopolists have filed at least 156 “address unknown” NOIs:

David Crosby

In a recent interview with Rolling Stone, David Crosby said:

Spotify’s plan to go public, filed last week, could generate $23 billion and make the world’s biggest record labels hundreds of millions of dollars richer — but the Swedish streaming giant has yet to soothe grumbling and litigious artists and songwriters who say its royalty payments are unfairly low. “They rigged it so they don’t pay the artist,” David Crosby tells Rolling Stone. “I’ve lost half of my income because of these clever fellas. I used to make money off my records, but now I don’t make any.”

This gives doubling down a whole new meaning.

But Daniel Ek is about to make serious bank while he has many outstanding bills to songwriters and artists, including David Crosby.  And the one thing we know for sure when Spotify files an NOI is that they can’t say “but we paid the labels” or “we paid the publishers”.  They are not paying at all because they use a loophole to get out of any royalty obligation–while getting all the liability insulation of the compulsory license.

Thanks, Copyright Office.

Here’s another thing that’s about to happen to Daniel Ek.  Remember old “million a month” Tim Westergren who sold Pandora stock every month netting him over $1 million a month?  Want to bet that Daniel Ek does the same and that he’s going to make way more than $1 million a month?

We will be happy to bring you that news that you won’t read in the mainstream media as soon as Ek’s filings start to go through the SEC.  Then he can explain to David Crosby how it feels to be a billionaire off the backs of the songwriters and artists he stiffs.

How Shareholder Lawsuits Against Spotify May Have Just Gotten Easier

February 25, 2018 2 comments
maginot-line

The Maginot Line

The Digital Media Association is as obsessed with crushing the ability of independent songwriters and small publishers to sue companies like Spotify for copyright infringement as the industry negotiators are with presenting a new safe harbor for infringers like it was a fantastic give in the Music Modernization Act.  But at least where Spotify is concerned, as a public company they may be begging for the very statutory damages they are so anxious to eliminate.

Spotify lawyers like Christopher Sprigman and his compadre Lawrence Lessig have been trying to get rid of statutory damages and bring back 1909-style copyright registration for years.  (See also Pamela Samuelson and the list goes on.)

But now that the industry has acquiesced in both of those long cherished goals of the anti-copyright crowd, songwriters will have to look elsewhere to regain the kind of punch that they got with the statutory damages stick.  Why?  Because  a benevolent and patriarchal government is taking that stick away from the little guy and giving it to the largest corporations in commercial history.  (And recording artists and record companies–you’re next and you’ll know who to thank.  See Transparency in Music Licensing and Ownership Act that is quietly adding co-sponsors.)

But you say, what could be a bigger stick than statutory damages?  It might be shareholder derivative suits.  And Sprigman’s benefactor Google is a great example of what that means.

MTP readers will recall that we have written before about Google’s “dual class shares” that created 10 for 1 supervoting stock that is owned only by insiders like Eric “Uncle Sugar” Schmidt, Larry Page and Sergey Brin.  If you’ve ever watched the video of a Google shareholder meeting, you’ll have seen David Drummond (who has his own problems) reading out the news of how any shareholder motion that was not supported by the insiders was defeated–and massively defeated due to the supervoting stock.  The only thing that’s remarkable is that the shareholders keep trying.  Because while all shareholders are equal, at Google, some shareholders are more equal than others.  Ten times more equal if they give you voting stock at all.  Google shareholders give the right to be forgotten a whole new meaning.

That’s right–Google has what I call the “you break it, you bought it” class of stock that gives the insiders total control over all aspects of their corporation.  If you’re not an insider, your role is to shut up and enjoy the ride.  Don’t get me wrong–lots of people do.

But some don’t.  Most recently, a Google shareholder tried to question the company’s top executives about their pre-#metoo opposition to the Stop Enabling Sex Traffickers Act.

If you watch the video, you’ll get the idea.  Google is comfortable with their opposition to stopping sex trafficking in favor of profitable safe harbors, so sit down, shut up and count your money.  That should demonstrate two things:  First, the Alphas are not interested in anything anyone else has to say although they will go through the motions to tolerate the poor Epsilons.  Second, these policy positions and more importantly corporate actions are solely the responsibility of the insiders in the More Equal Than You system of corporate governance.

And guess what?  Bloomberg reports that Silicon Valley mogul wanna be Daniel Ek mimicked the Google model with the supposedly egalitarian Spotify.

Chief Executive Officer Daniel Ek and Vice Chairman Martin Lorentzon own a class of stock that assures their hold on the company after the shares begin trading, said the people, who asked not to be identified because the terms aren’t public. Another class will be tradeable by investors.

That means public investors will be able to own part of the world’s largest paid music service in the next couple of months, but won’t have much say about its future. Years after going public, some of the biggest technology companies, including Google parent Alphabet Inc. and Facebook Inc., remain under the control of founders who hold shares with super-voting rights.

Company founders employ so-called dual-class structures to take advantage of the perks of being publicly traded without surrendering control. Such owners can make acquisitions that dilute their economic interest without loosing their grip.

Ek, who co-founded Spotify about a decade ago in Stockholm, has looked to such companies for direction. He invited Facebook founder Mark Zuckerberg to his wedding and has publicly praised the leadership of Snap Inc., which gave its investors no voting rights in its initial public offering last March.

If the Google shareholder meetings are any guide, it’s not that investors won’t have much say, they won’t have any say at all.  Unless they are sued by their stockholders in what is called a shareholder derivative suit.  A shareholder suit is when a shareholder sues the corporation’s officers or board of directors for a cause of action against the corporation that isn’t being brought because it would require the board of directors to sue itself.  These are often based on breach of fiduciary duty.

Case in point:  Google’s sale of advertising promoting the sale and distribution of illegal drugs.  Google signed a nonprosecution agreement with the Department of Justice, second cousin to a plea bargain, after a four year grand jury investigation, producing four million documents to the investigators and paying a $500,000,000 fine.  Walking around money for Google, but nobody was fired and according to the U.S. Attorney bringing the case, the paper trail implicated Google’s senior management including Larry Page (which disclosure resulted in an apology to Google from the DOJ and the “muzzling” of the US Attorney,)

Shareholders were pissed and a pension fund brought a derivative case (read the complaint) against the Google board including Page, Brin, Schmidt, John Doerr and Sheryl Sandberg.  (Yes, that Sheryl Sandberg.)  This case resulted in a settlement that required Google to spend over $250,000,000.

Shareholder Suite

So this is the kind of thing that stockholders bring themselves when they know that the government never will and there’s a case to be made.  Shareholder suits are kind of like the “private attorney general” laws that used to be in the Copyright Act where the government avoided the burden of actually enforcing its laws itself and instead relied on the market to do so.  How did they do this?  By giving private actors a big stick like the statutory damages and attorneys’ fees (recent precedent notwithstanding) they are now taking away from songwriters in the Music Modernization Act.

But never fear–songwriters who are also Spotify stockholders will still have the stick of shareholder derivative suits to go after malfeasance in the boardroom.  Shareholder derivative suits are in a very broad sense kind of like class actions, something Spotify is very familiar with.  The class is stockholders and the defendants are often limited to the officers and directors of the company for doing things like, oh, say, committing massive acts of willful copyright infringement that probably could be criminally prosecuted if there were any prosecutors with the chutzpah to actually enforce the copyright law.

And once Spotify sells shares to the public, the insiders may control the infringement but they can’t control who buys their stock.

Since Mr. Ek seems to want to be just like Google, maybe he’ll be just like Google in another way, too.  And remember–this is just the beginning of the disclosure of the inner workings of Spotify that will start to dribble out as its SEC disclosures become due and payable.  And these supervoting stock classes are a very good way to demonstrate that you broke it, you bought it.

You want all the control?  Well, you got it.  And having all the control means having all the responsibility, too.  Just ask Uncle Sugar.

 

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