Last month an audio live-streaming service Spotify announced that it will be seeking $500 million from investors to finance future growth through convertible notes. The notes will have a 4% yield which would convert into Spotify shares in case of a future initial public offering at a discount to the IPO price. The rumors of Spotify going public were travelling around the internet long time ago, but now they might be true and it won’t be a surprise. The company is one of the largest music streaming services in the world and has the biggest subscription-based number of users in the industry, so IPO seems like a natural evolution for the service. The purpose of this article is to make the potential investors aware of the perspectives than Spotify can offer and what hides behind its valuation if it decides to go public. So let’s get started. Market overview and Business Model According to Activate Inc., on average people spend around 4 hours a day on audio activities (music, podcasts, audiobooks etc.): (Source: Activate) As more audio content is being created and the internet becomes more accessible for the people around the world, the need of downloading music becomes unnecessary and streaming services are quickly gaining traction. In 2020 audio streaming could become a $10 billion industry: (Source: Activate) Spotify’s business model is based on a subscription fees. Its service has over 75 million total users. However, only 20* million of them are paid subscribers that pay fee to use the service and the other 55 million are free users that don’t have a lot of access to the service and need to listen to the ads when they’re streaming their favorite music. Spotify has made the subscription fee structure its main business model and even though there are less subscribers than free users, they bring the majority of revenue for the company: (Source: Activate) *(Note: According to the latest news, Spotify now has around 30 million subscription based users) To attract more artists, Spotify pays them royalties for all of the listening that occurs on the service. So nearly 70% of revenue that the company makes goes to the “rights holders” (labels, distributors, independent artists, publishers etc.), while 30% is retained inside: (Source: Spotify Artists) This model proved to be working, as more and more artists from the one side and users from the other side are joining the service. Since its foundation the royalty payout has grown up exponentially, but so does the revenue: (Source: Spotify Artists) At the moment, Spotify has a catalog of over 30 million songs, a lot of social features and clever tools that cater to the many different ways you listen to music. It has one of the best sound quality and streaming stability in the industry and has a lot of advantages against its competitors. Valuation and Competition As I said before, Spotify is the biggest subscription based audio streaming service in the world. But since the field is very crowded by a number of other popular companies that are competing with each other for the place under the sun, the company is in a continuous need of excess resources. Over the last few years Spotify launched eight rounds of funding and raised over $1.5 billion. The most notable investors of the service are companies like Coca-Cola and Goldman Sachs. But as we can see, it’s not enough to sustain its current growth and Spotify is seeking another $500 million in exchange for pre-IPO convertible notes with a 4% yield. Currently, Spotify is valued at $8 billion. Since the company is private and there’s no F-1 form available at the moment, I’ll try to do my best to justify this valuation from the public sources. Besides all of the artists and songs which I described earlier, the company made a number of acquisitions that will play an important role in company’s success. Last month Spotify acquired two startups: Cord Project, which allows users to send voice messages to other users through the app and Soundwave, a music sharing service with over 1 million of users in 190 countries. It shows that the company is aggressively trying to integrate a social media aspect into its service, which will allow it to earn more costumers. Spotify is also very active on the big data scene. In 2014 it bought another company called The Echo Nest, a music intelligence and data platform that is intended to perform music identification, playlist creation and analysis for consumers in developers. Then last year, it acquired Seed Scientific, an analytic firm that is focused on developing data services. Those four acquisitions in big data and social media sectors are signaling that Spotify is very actively engaged in building its own ecosystem. But to sustain its growth, the company will need more resources. The current subscription based market of audio streaming looks like this: (Source: Bloomberg) (Note: This chart is a little bit outdated, Spotify now has around 30 million paid subscribers and Apple Music has 11 million of them.) Until 2015, Spotify didn’t have a lot of competition. Most of the audio streaming services were based on the advertisement model, leaving the room for the company to establish its foothold on the subscription based niche. But in June 2015, things have changed. At that time Apple decided to join the music subscription business and launched its own service Apple Music. With the resources that the tech giant has, it managed to grow its audience from scratch to over 11 million in less than a year. It integrated its popular music services iTunes Radio and Beats Radio under the one roof and now has more audio content than Spotify. Its other competitor Deezer, with more than 5 million subscribers, had a plan to become a public entity, but later abandoned this thought and raised $109 million last month. The service is not as popular as Spotify and Apple Music, but still plays an important role in the streaming business. Conclusion Since 2006, Spotify was slowly building its ecosystem and acquired a loyal base of customers. It enjoyed the growth of the streaming business and played a big role in the music industry. But since the launch of Apple Music, the things have changed. With the resources that the Cupertino tech giant has, the fight for the place under the sun moved into a new phase. The aggressive buying of social media and big data startups, loyal royalty structure, brand recognition and market growth will help Spotify to defend its position as a leader of the subscription based audio streaming service in the short-term. But as we move forward, the company will need additional resources to sustain its growth. Initial public offering seems like a natural evolution for the company that will unlock the additional shareholder value and make a great profit for the current private and institutional investors in today’s highly volatile market. I think that going public is only a matter of time and believe that you should be aware of the opportunities and risks that Spotify presents.