Universal takes on Spotify freemium model
NASHVILLE, TN - NOVEMBER 02: General atmosphere view at Spotify presents An Intimate Evening With Shane McAnally at the Rosewall on November 2, 2014 in Nashville, Tennessee. (Photo by Jason Davis/Getty Images)©Getty
The “freemium” model used by Spotify to amass 60m users and 15m paying subscribers around the world is facing a new challenge just months after the pop star Taylor Swift yanked her albums from the music streaming service.
The Shake It Off singer mounted a high-profile publicity campaign against Spotify at the end of 2014, claiming the service was undervaluing her music by allowing people to listen to it free of charge. Now, Universal Music Group, the world’s largest music company and home to acts ranging from Sam Smith to Katy Perry, is using license negotiations with Spotify to push for changes to the company’s free service, privately arguing that it is not sufficiently distinct from the its paid-subscription tier.
The disagreement has exposed a sharp difference in strategy between two of the industry’s most important companies, at a time of rapid change in the distribution of music. Digital downloads, a reliable source of industry revenue for the past decade, have peaked and are in steady decline. Revenues from streaming, meanwhile, have eclipsed CD sales and are closing in on downloads as music’s largest source of revenue in the US, the industry’s biggest market.
Ad-supported free streaming generated $295m in the US for music labels in 2014, much less than the nearly $800m generated by paid subscription.
The Spotify business model relies on attracting users to a free service that offers a selection of music but with limited functionality, with the aim of converting those users to paying subscribers. Spotify generates some revenue around the free service but makes more via paid subscriptions.
A person close to Universal says there was clear evidence the availability of free music on Spotify was hurting digital downloads from stores such as Apple’s iTunes. “The market data really speaks for itself,” the person says. “It’s clear that the key to success for artists, consumers and Spotify alike is developing an offering that drives more free users to the paid tier.”
Spotify has resisted tightening or changing the free aspect of its service: it says doing so would slow the conversion of free users to paying subscribers and likely send those users to pirated music or free sites such as YouTube. “Without free, pay has never succeeded,” Jonathan Forster, who heads the Nordics region for Spotify, tells the Financial Times. “We’re one of the greenest shoots of growth in the industry. We don’t want to destabilise that. We think that this model works.”
The company also rejects the suggestion that its ad-supported tier is responsible for declines in download sales. “Spotify is not cannibalising iTunes,” it says. “Spotify is monetising people who have never been monetised before.” Only 12 per cent of former iTunes users are on Spotify and of that number more than 40 per cent subscribe to the paid tier, it adds.
Spotify founder and CEO Daniel Ek addresses a press conference in New York, December 11, 2013. The music streaming service, Spotify, unveiled a new ad-based service for mobile and tablet users that will allow access to Spotify's song catalog for free. Ek also announced, that the Spotify catalog will now include the works of Led Zeppelin, the legendary band that until this deal had withheld its music from streaming services. AFP
Universal does not want Spotify to abandon the free tier. Instead, it is pushing the company to modify the free service, perhaps by capping the amount of time it can be used, to accelerate the conversion to higher margin, paid subscription. Spotify users can listen to as much free music as they want for an unlimited period of time, although they cannot choose tracks on its mobile app or listen offline.
Universal has not commented publicly on its licence negotiations with the streaming company. Like the other big music labels, the Vivendi-owned group has a small stake in Spotify, holding about 5 per cent of the company. Until recently it seemed to be in lock-step with the company’s free-to-paid strategy.
But its position has clearly changed. Rob Wells, president of Universal’s global digital business, and a known supporter of Spotify’s freemium model, left the company recently, while Lucian Grainge, its chief executive, has begun to speak out about the limitations of ad-supported music streaming. He told the Recode conference last month that the industry needed to “accelerate paid subscription” in streaming. “Ad-funded on-demand is not going to sustain the entire ecosystem of the creators as well as the investors,” he said.
Other music labels have taken a different approach. Sony Music, the second largest music group, has not clashed with Spotify although Doug Morris, its chief executive, has been critical of free music services. “I equate ‘free’ with the decline of the music business,” he recently told Hits, a music industry trade title. “In general, free is death.”
He added that Daniel Ek, Spotify’s chief executive and founder, “deserves a tremendous amount of credit for pushing the rock up the hill”.
Mark Mulligan, an analyst with MIDiA Research, says Spotify is better than most other services at converting free users to paying customers. Pandora, the streaming radio service, has 80m free users and 3.5m pay, he says, while YouTube has 1bn users any month and barely any pay. “No one else is converting free users to paying ones like Spotify,” he says.
Simon Wheeler, director of strategy at Beggars Group, which owns the 4AD and XL labels, agrees that criticism of Spotify’s model was “a bit unfortunate” as Spotify has been “more successful than any other company in converting people from free to paid”.
The bigger issue, he argues, is YouTube. Though the Google-owned platform is primarily known as a video site, it has become the main online destination for young people to listen to music for free.
“You’ve got to look at YouTube,” he says. “It’s free on every platform with no restrictions, totally on demand.”
Freemium v paid: Streaming competition swells
TO GO WITH AFP STORY BY SOREN BILLING:
This photo illustration shows the Swedish music streaming service Spotify on March 7, 2013 in Stockholm, Sweden. Sweden is at the forefront of a global recovery in music sales driven by streaming music services such as Spotify. AFP PHOTO/JONATHAN NACKSTRAND (Photo credit should read JONATHAN NACKSTRAND/AFP/Getty Images)©AFP
YouTube is one of several Spotify competitors bringing streaming services to the market this year. The site, which has 1bn visitors each month, has an enormous library of music videos and tracks that can be watched at any time. The company says it has paid out more than $1bn to music labels “over the past few years” — their share of advertising revenue — and is working on its own paid subscription service, which will launch in 2015.
The nascent streaming sector will become fiercely competitive this year. Apple will in a few months launch the streaming service it has been reconfiguring since it acquired Beats Electronics last year from Dr Dre and Jimmy Iovine for $3bn. The iPhone maker will not offer a free tier in its service but has been in discussions with top artists and managers about signing them to exclusive deals, according to people familiar with the situation.
Mr Iovine, who is running the Apple service, is pursuing these deals aggressively, the people say. If he is successful it could mean that new tracks or albums are made available first on the Apple service before they are streamed anywhere else.
Jay-Z, the leading hip-hop star, is also set to enter the market, having acquired Aspiro, a Swedish music streaming group, and is set to use his clout and connections — his RocNation company represents acts including Rihanna and Shakira — to increase its presence in the US.
Spotify, meanwhile, is on track for an initial public offering, having recently hired Goldman Sachs to lead a $500m fundraising that would give the company a provisional valuation of about $8bn.
It is unclear whether the disagreement with Universal, its biggest supplier of music, is going to become a larger issue at a time when the company is anxious to maintain its growth curve. Whatever the outcome, its freemium model is clearly not leaving the spotlight anytime soon.
“It’s the year in which everyone is beginning to say: is freemium growth big enough?” says Mr Mulligan of MIDiA Research. “Everyone knows it converts [to paid subscription] but the question is: does it convert enough? Is the result big enough to make sure the market grows?”