Spotify’s 2012 results are out today, with Reuters reporting that the private company had revenue of 435 million euros, and a 58.7 million euro net loss.
The revenue figure is impressive, more than doubling 2011’s 190 million euro tally. However, the company’s net loss widened in the year, even as it saw a dramatic expansion of its top line from 45.4 million euros to the aforementioned 58.7 million figure.
Spotify notes, in the document that Reuters attained, that as a company it “cannot exclude the need or desire to raise more funds in the future to fund future growth initiatives.” The company is essentially stating that it may again lean on outside capital to grow its operations and, presumably, find profits.
Spotify, its documentation revealed, pays around 70 percent of its revenue in royalty costs. So, for every dollar that flows into Spotify, 70 cents goes right back out the door to rights holders. I pay, like many of you, $10 to Spotify monthly for both desktop and mobile access to its tunes sans advertisements. From this perspective, I pay the music industry $7 per month to listen to its music, and $3 to Spotify to deliver it.
A music company with growing revenue, low cash reserves, and a niggling loss? That’s not just Spotify, it’s also Pandora, a rival to the Stockholm-based company music streaming company.
Pandora, for its most recent quarter, the first of its fiscal 2014 year, lists its “content acquisition costs” at $82.85 million. Its gross revenues for the period totaled $125.5 million. Pandora therefore pays out 66 percent of its revenue to cover the cost of the music that it spins out to its vast listener network.
Pandora and Spotify pay, therefore, around the same royalty rate. And it’s strangling them both. Spotify is unsure if it will need an additional shot of capital to make it to profits, and the public markets, and Pandora is shedding cash no matter how you measure it:
Total cash and cash equivalents:
- FQ1 2013: $65.7 million
- FQ1 2014: $55.4 million
Cash, cash equivalents and short-term investments:
- FQ1 2013: $88.9 million
- FQ1 2014: $75.4 million
Total cash equivalents and marketable securities [fair value]:
- FQ1 2013: $66.3 million
- FQ1 2014: $56.3 million
Pandora lost $28 million in the quarter, up from $20 million the year before, even as its revenue grew from $80.7 million to $125 million for the comparable first quarter in fiscal year 2013 and FY 2014.
If growing their revenue isn’t an effective tool for the firms to find short-term profits, as their expenses do not decrease as a percentage of revenue given their fixed royalty costs, can the two companies not run out of gas? In the short term, they are more than safe. Spotify can raise capital from the private sector, and Pandora, as a public firm, has ways to raise rash.
However, the longer term efficacy of their business model is perhaps somewhat unsettling; if profits can’t be found in greatly expanded revenues, from whence can they be sourced? The simple answer is that royalty rates may need to ease to allow the two firms to find positive margins on their businesses.
Last year, Reps. Chaffetz and Polis introduced the Internet Radio Fairness Act, which aimed to do this at least for Pandora. As The Hill reported at the time: “According to statistics provided by Chaffetz’s office, Internet radio services pay more than 55 percent of their revenue in royalty fees, while cable and satellite stations pay between 7 and 16 percent. “
However, as we have seen, that 55 percent number is quite low. For fun, if Spotify paid the 55 percent rate, would it be profitable? Using back of the envelope scribbling, the answer appears to be yes: 70 – 55 = 15. Fifteen percent of 435 million euros is 65.25 million euros, which is greater than its first-quarter loss of 58.7 million euros. So, the company would have booked a profit in the realm of 6.5 million euros.
If that rate were further decreased, Spotify and Pandora would in fact be comfortably profitable. However, even at the 55 percent rate, both companies’ chances of knocking out real net income appears far healthier.
There could be cost cuts at both firms, but as long as the 66 or 70 cents they take in leaves before they take into account other expenses — development, advertising, content delivery, and so forth — the squeeze will remain in place. The question then becomes whether the music industry will hug the two so hard that in the end each suffocates. Something has to give.
Top Image Credit: Serendipiddy