Hi-Res audio: It’s all about a maturing market

Apple and Amazon made a splash this week by integrating Hi-Res Dolby Atmos audio into the basic tiers of their streaming services. The timing, i.e. just after Spotify started increasing prices, is – how shall we put it, interesting. It also struck a blow against the music industry’s long-held hope that Hi-Res was going to be the key to increasing subscriber ARPU. While that might be true, for now at least, the move is an inevitable consequence of two streaming market dynamics: commodification and saturation.

Music streaming contrasts sharply with video streaming. While the video marketplace is characterised by unique catalogues, a variety of pricing and diverse value propositions (including a host of niche services) music streaming services are all at their core fundamentally the same product. When the market was in its hyper-growth phase and there were enough new users to go around, it did not matter too much that the streaming services only had branding, curation and interface to differentiate themselves from each other. Now that we are approaching a slowdown in the high-revenue developed markets, more is needed. Which is where Hi-Res comes in.

Now that streaming is, as Will Page puts it, in the ‘fracking stage’ in developed markets, success becomes defined by how well you retain subscribers rather than how well you acquire them. As all the key DSPs operate on the same basic model, they need to innovate around the core proposition in order to improve stickiness and reduce churn. Spotify started the ball rolling with its podcasts pivot, but the fact that its podcasts can be consumed by free users means it is not (yet) a tool for reducing subscriber churn.

On top of this, when podcasts are mapped with other positioning pillars, Spotify’s competitive differentiation spread is relatively narrow. Because Apple and Amazon now both have Hi-Res as standard, they not only boost audio quality but value for money (VFM) as well. Bearing in mind, both companies already scored well on VFM because they have Prime Music and Apple One in their respective armouries. 

It is Amazon, though, that looks best positioned of the four leading Western streaming services. In addition to audio quality and VFM, it is building out its podcasts play (as compared to the Wondery acquisition) and it has the potential to bundle in the world’s leading audiobook company, Audible. Given that spoken-word audio consumption grew at nearly twice the rate music did during 2020, being able to play in all lanes of audio will be crucial to competing in what will become saturated streaming markets. 

Immersive audio storytelling 

Finally, Dolby Atmos is more than simply Hi-Res audio; it is an immersive format that enables the creation of spatial audio experiences. If we are truly on the verge of a spoken-word audio revolution, then immersive audio may have a central role to play. Surround sound has been a slow burner for home video, but that may be because the video experience itself has improved so much (bigger screens, HD, more shows than ever) that the audio component has been less important (though the growing soundbar market suggests that may be beginning to change). However, in audio formats there is only the audio to do the storytelling. This could mean that tools like immersive audio become central to audio storytelling, which means, you guessed it, Amazon and Apple would then have a competitive advantage in podcasts and audiobooks that Spotify would not.

Music Subscriber Market Shares Q1 2020

WWDC would have been a perfect opportunity for Apple to announce another streaming milestone for Apple Music. It didn’t but the good news is that MIDiA already have a figure for Apple Music, as part of our latest music subscriber market shares. Whether Apple’s lack of announcement was because it didn’t have a good news story to tell or because it is waiting for a bigger number to pull out of the hat at a later date, well, we’ll have to wait and see.

Overall there were 400 million music subscribers in Q1 2020, up 30% from Q1 2019, with 93 million net new subscribers added. This compares to the 77 million added one year earlier. The eagle eyed of you may be struggling to rationalise why streaming revenue growth slowed in 2019 while subscriber growth accelerated. The simple answer is ARPU. The combination of family plans, promotional trials and progressively more global growth coming from lower ARPU, emerging markets means that the long-term outlook for streaming is that subscriber growth will increasingly outpace revenue growth.

Spotify remains the standout leader in terms of subscribers with 32% market share. Spotify’s market share has remained between 32% and 34% every quarter since 2015. This is some achievement given how much more competitive the market has become in that time, and the stellar growth of Amazon. Spotify’s growth is both an extension of the wider market and a driver of it.

Despite Apple Music’s strong showing in second with 18%, this market share is down from 21% in Q1 2019 and contrasts with Amazon Music which finished Q1 2020 with 14% share, up from 13% one year earlier. Apple Music is making ground in absolute terms, Amazon is making ground in both absolute and relative terms.

Tencent Music Entertainment takes fourth spot with 11%, all the more impressive given that this number almost entirely refers to China and that it is accelerating growth, adding 14 million subscribers by Q2 2020 compared to 6 million on the year earlier.

Google is fifth with a more modest 6% but this represents a turnaround, with YouTube Music finally making Google a genuine contender in the subscription space. In Q1 2018, Google’s market share was just 3%. Google is outperforming the overall market.

What is particularly interesting about the state of the global market now compared to a couple of years ago is that we are starting to see some genuine segmentation taking place, which is a real achievement given that most of the services have to operate with the same catalogue and pricing:

• YouTube Music is resonating with Gen Z and younger Millennials
• Amazon Music is bringing older audiences to subscriptions
• Spotify and Apple Music are the mainstream options
• Deezer is enjoying success in emerging markets – Brazil especially – with pre-pay mobile bundles

The global subscriber market is in rude health in Q1 2020, significantly more so than the revenue and ARPU side of the equation.

These figures are the very top level findings from MIDiA’s Subscriber Market Shares model which includes quarterly data for 25 music services across 36 markets. This year we have added splits for MENA, Russia and Ireland. As well as a whole new dataset: Ad supported market shares, with splits for Sub-Saharan Africa. This data will be available for MIDiA clients in the coming weeks. If you are not yet a MIDiA client and would like to learn more about this dataset, email stephen@midiaresearch.com

Music Subscriber Market Shares H1 2019

The global streaming market continues to grow at pace. At the end of June 2019 there were 304.9 million music subscribers globally. That was up 34 million on the end of 2018, while the June 2018 to June 2019 growth was 69 million – exactly the same rate of additions as one year earlier.

Spotify remained the clear market leader with 108 million subscribers, giving it a global market share of 35.6%, EXACTLY the same share it had at the end of 2018 AND at the end of 2017. In what is becoming an increasingly competitive market, Spotify has continued to grow at the same rate as the overall market.

Meanwhile both Apple and Amazon have grown market share, though Apple is showing signs of slowing. At the end of 2017 Amazon (across all of its subscription tiers) had 11.4% global market share, pushing that up to 12.6% by end June 2019 with 38.3 million subscribers. Apple went from 17.3% to 18% over the same period – hitting 54.7 million subscribers, but while Amazon added share every quarter, Apple peaked at 18.2% in Q1 2019 before dropping slightly back to 18% in Q2 2019. Though at the same time, Apple increased market share in its priority market – the US, going from 31% in Q4 2018 to 31.7% in Q2 2019 with 28.9 million subscribers.

Google has been another big gainer, particularly in recent quarters following the launch of YouTube Music, going from just 3% in Q4 2017 to 5.3% in Q2 2019. Google had a well-earned reputation for being an under-performer in the music subscriptions market, a company that did not appear to actually want to succeed. Now, however, Google appears to be far more committed to subscriptions, pushing both YouTube Premium and YouTube Music hard, with a total of 16.9 music subscriptions in Q2 2019, compared to just 5.9 million at the end of 2017.

With the big four all gaining market share, the simple arithmetic is that smaller players have lost it. The share accounted for by all other services fell from 32.8% end-2017 to 28.4% mid-2019. This of course does not mean that all of these services lost subscribers; indeed, most grew, just not by as much as the bigger players. Of the other services, most are large single-market players such as Tencent (31 million – China), Pandora (7.1 million – US) MelOn (5.3 million – South Korea) with Deezer now the only other global player of scale (8.5 million).

In summary, 2019 was a year of growth and consolidation, with the global picture dominated by the big four players and Spotify retaining market share despite all three of its main competitors making up ground. 2020 is likely to be a similar year, though with a few key differences:

• Key western markets like the US and UK will likely slow from Q4 2019 through to 2020. Meanwhile, emerging markets will pick up pace
• This could shift market share to some regional players. For example, in Q3 Tencent’s subscriber growth accelerated at an unprecedented rate to hit 35.4 million subscribers. Tencent could be entering the hockey stick growth phase, and at just 2.6% paid penetration there is a LOT of potential growth ahead of it
• Bytedance could create a new emerging market dynamic with its forthcoming streaming service. Currently constrained to India and Indonesia, Western rights holders may remain cautious about licensing it into Western markets. The unintended consequence is that the staid western streaming market could by end 2020 be looking enviously upon a more diverse and innovative Asian streaming market

These figures and findings are taken from MIDiA’s forthcoming Music Subscriber Market Shares, which includes quarterly data from Q4 2015 to Q2 2019 for 23 streaming services across 30 different markets. The data will be available on MIDiA’s Fuse platform later this week and the report will follow shortly thereafter.

If you are not yet a MIDiA client and would like to know how to get access to this report and dataset, email stephen@midiaresearch.com

Songwriters Aren’t Getting Paid Enough and Here’s Why

Music Business Worldwide recently ran a story on how Apple has proposed a standard streaming rate for songwriters, with Google and Spotify apparently resistant. Of course, Apple can afford to run Apple Music at a loss and has a strategic imperative for making it more difficult for Spotify to be profitable, so do not assume that Apple’s intentions here are wholly altruistic. Nonetheless, it shines a light on what is becoming an open wound for streaming: songwriter discontent. In the earlier days of streaming artists were widely sceptical, but over the years have become much more positive towards the distributive medium. The same has not happened for songwriters for one fundamental reason: they still are not paid enough. This is not simply a case of making streaming services pay out more; rather, this is a complex problem with many moving parts.

Songwriters don’t sell t-shirts

Streaming fundamentally changes how creators earn royalties, shifting from larger, front-loaded payments to something more closely resembling an annuity. In theory, creators should earn just as much money, but over a longer period of time. If you are a larger rightsholder then this is often wholly manageable. If you are a smaller songwriter or artist, then the resulting cash flow shortage can hit hard. Many artists, especially newer ones, have made it work because a) streaming typically only represents a minority of their total income, and b) the increased exposure streaming brings usually boosts their other income streams such as live performances and merchandise. Professional songwriters however – i.e. those that are not also performers – do not sell t-shirts. Royalty income is pretty much it. There is a greater need to fix songwriter streaming income than there was for artists.

The four factors shaping songwriter income

There are four key factors impacting how much songwriters earn from streaming, and most of them can be fixed. To be clear, though, just fixing any single one of them will not move the dial in a meaningful-enough way:

1. Streaming service royalties: Songwriter-related royalties are typically around 15% of streaming revenues, which represent around 21% of all royalties paid by streaming services – around 3.6 times less than master recordings-related royalties. This is better than it used to be, when the ratio was 4.8. However, there is clearly still a large gap between the two sets of rights. Labels argue that they are the ones who take the risk on artists, invest in them and market them. Therefore, they should have the lion’s share of income. Publishers, on the other hand, argue that they are increasingly taking risks with songwriters too (paying advances) and working hard to make their music a success, e.g. with sync streams. They also argue that everything is about the song itself. Both arguments have credence, but the fact that streaming services have historically negotiated with labels first helps explain why there isn’t much left of the royalty pot when they get to publishers. There is clearly scope for some increase for songwriters, but if there is not an accompanying reduction in label rates – not exactly a strong possibility – then the net result will be reduced margins for streaming services. Given that Spotify has only just started generating a net profit, the likely outcome would be to weaken Spotify’s position and skew the market towards those companies who do not need to see streaming pay – i.e. the tech majors. If the market becomes wholly dependent on companies that thrive on squeezing suppliers… well, good luck with that.
2. CMOs: Many songwriter royalties are collected by collective management organizations (CMOs). These (normally) not-for-profit organisations administer rights, take their deductions and then either pay to songwriters directly or to publishers who then pay songwriters (after taking their own deductions). It gets more complicated than that, however. If a songwriter is played overseas, the local CMO collects, deducts and then sends the remainder to the CMO where the songwriter is based (however there are a good number of exceptions to this with a number of CMOs not deducting for overseas collections). That CMO takes its deduction and then distributes. It gets more complicated still – some CMOs apply an additional ‘cultural deduction’ on top of their main fee before distributing. So, if a US hip-hop artist gets played in Europe, the local CMO will take its cut, and an administration fee. Then it goes to his local CMO which takes its fee before sending it to the publisher which then takes its own cut (typically just 25%) which however is much better than label shares.
3. The industrialisation of song writing: With more music being released than ever, songs have to immediately grab the listener. To help ensure every part of the song is a hook and to try to de-risk their artists, bigger labels commission songwriter teams and hold song writing camps, where many song writers get together and write the tracks for albums. This means that the royalties for every song are thus split into small shares across multiple songwriters. Drake’s ‘Nice for What’ has 20 songwriters credited. That means the already small royalties are split 20 ways.
4. The unbundling of the album: When music was all about selling physical albums, songwriters used to get paid the same mechanical royalty for every song on the album, regardless of whether it was the hit single or filler. Now that listeners and playlists dissect albums, skipping filler for killer, a weak song simply pays less. Tough luck if you only wrote the filler songs on the album. On the one hand, this is free market competition. If you didn’t write a song well, then don’t expect it to pay well. Some songwriters argue that it should go the other way too, though – if they wrote the song that made the artist a hit, then shouldn’t they be paid a larger share? 

Here’s another way of looking at it. With the above analysis, this is how many streams the songwriter needs to earn income based assuming the songwriter is equally sharing income four ways with three additional songwriters:

It is incumbent on all of the stakeholders in the streaming music business to collectively work towards making earning truly meaningful income from streaming a realistic objective for songwriters. No single tactic will move the dial. Increasing the streaming service pay-out from 15% to 20%, for example, would still see the above-illustrated songwriter only earn 25% of that. All levers need pulling. Until they are, songwriters will feel short-changed and will remain the open wound that prevents streaming from fulfilling its creator potential. Ball in your court, music industry.

Note – since originally publishing this post I have had useful feedback from a number of rights associations and publishers. My assumptions actually translated (unintentionally) into a worst case scenario that was not representative of usual practise. The post has been updated to show a more typical revenue flow. The underlying arguments of the piece remain unchanged.

Spotify Takes Aim at Radio, Again

Spotify has launched a radio-like feature set for premium subscribers in the US called Your Daily Drive.Although it is only positioned as a playlist, the content mix includes podcast news content and plays music the listener already likes with a sprinkling of new tracks. This might not sound that special, but this ‘recurrent heavy’, news-anchored programming is Spotify taking the essence of US drive time radio and translating it into a playlist. As we wrote back in early 2018, radio is streaming’s next frontier, and nowhere is that more true than in the US.

Right now, streaming consumption is fragmented across multiple programming formats with no stand-out use case. Curated playlists are not for music what binge watching is for video. While this is positive in the context of multiple use cases being met within an increasingly diverse user base, if streaming is ever going to seriously challenge the mainstream mass-market audience that is radio, it needs a binge watching equivalent. Streaming needs a simple, easy to understand and access format that translates seamlessly to traditional radio audiences. Your Daily Drive is a very small first step on that journey.

The playlist is now just a delivery vehicle

If we were to rewind just a few years ago, the idea of Spotify delivering drive-optimized playlists interspersed with news may not have sounded totally outlandish but it would nonetheless have only felt a distant possibility. But now that Spotify has extensive podcast capabilities under its belt and a very proven willingness to insert podcasts throughout the music user’s experience, the concept of what constitutes a playlist needs rethinking entirely…largely because that is exactly what Spotify has just done. The industry needs to start thinking about playlists not as a collection of music tracks but instead as a targeted, personalized and programmed delivery vehicle for any combination of content. In old world parlance you might call it a ‘channel’, but that does not do justice to the vast personalization and targeting capabilities that playlists, and Spotify’s playlists in particular, can offer.

In this context, Your Daily Drive is not simply a playlist but instead Spotify’s first foray into next-generation radio broadcasting. There will doubtless be further Spotify playlist announcements over the coming months that leverage podcast content. As with Your Daily Drive, they won’t just be playlists; instead, pay attention to what they are aiming to compete with to understand their true intent.

Making radio work takes more than just making radio work

Radio programming itself will take a long time for Spotify to master – just look how long it is taking Apple. Even when it does, the even bigger challenge is monetisation. Ad-supported revenue simply isn’t growing fast enough, and the Q1 earnings (which recognized the revenue of its new podcast companies) did not indicate that podcasts were going to bring a big bump anytime soon either. To compete with radio in a meaningful way, Spotify will have to invest heavily in ad sales and ad tech to the same extent that Pandora has. That means having people pounding the streets, knocking on the doors of mom and pop stores selling local spot ads, through to competing with Google, Facebook and Amazon to deliver world class ad tech. No small task, but the rewards could be huge.

The Meta Trends that Will Shape 2019

MIDiA has just published its annual predictions report. Here are a few highlights.

2018 was another year of change, disruption and transformation across media and technology. Although hyped technologies – VR, blockchain, AI music – failed to meet inflated expectations, concepts such as privacy, voice, emerging markets and peak in the attention economy shaped the evolution of digital content businesses, in a year that was one to remember for subscriptions across all content types. These are some of the meta trends that we think will shape media, brands and tech in 2019 (see the rest of the report for industry specific predictions):

• Privacy as a product: Apple has set out its stall as the defender of consumer privacy as a counter weight to Facebook and Google, whose businesses depend upon selling their consumers’ data to advertisers. The Cambridge Analytica scandal was the start rather than the end. Companies that can – i.e. those that do not depend upon ad revenue – will start to position user privacy as a product differentiator.
• Green as a product: Alphabet could potentially position around environmental issues as it does not depend as centrally on physical distribution or hardware manufacture for its revenue. For all of Apple’s genuinely good green intentions, it fundamentally makes products that require lots of energy to produce, uses often scarce and toxic materials and consumes a lot of energy in everyday use. Meanwhile, Amazon uses excessive packaging and single delivery infrastructure, creating a large carbon footprint. So, we could see fault lines emerge with Alphabet and Facebook positioning around the environment as a counter to Apple and potentially Amazon positioning around privacy.
• The politicisation of brands: Nike’s Colin Kaepernick advert might have been down to cold calculation of its customer base as much as ideology, but what it illustrated was that in today’s increasingly bipartisan world, not taking a position is in itself taking a position. Expect 2019 to see more brands take the step to align themselves with issues that resonate with their user bases.
• The validation of collective experience: The second decade of the millennium has seen the growing success of mobile-centric experiences across social, music, video, games and more. But this has inherently created a world of siloed, personal experiences, of which being locked away in VR headsets was but a natural conclusion. The continued success of live music alongside the rise of esports, pop-up events and meet ups hints at the emotional vacuum that digital experiences can create. Expect 2019 to see the rise of both offline and digital events (e.g. live streaming) that explicitly look to connect people in shared experiences, and to give them the validation of the collective experience – the knowledge that what they experienced truly was something special but equally fleeting.
• Tech major content portfolios: All of the tech majors have been building their content portfolios, each with a different focus. 2019 will be another year of content revenue growth for all four tech majors, but Apple may be the first to take the next step and start productising multi-content subscriptions, even if it starts doing so in baby steps by making Apple original TV shows available as part of an Apple Music subscription.
• Rights disruption: Across all content genres, 2019 will see digital-first companies stretch the boundaries and challenge accepted wisdoms. Whether that be Spotify signing music artists, DAZN securing top tier sports rights, or Facebook acquiring a TV network. These are all very different moves, but they reflect a changing of the guard, with technology companies being able to bring global reach and big budgets to the negotiating table. Expect also more transparency, better reporting and more agile business terms.
• GDPR sacrificial lamb: In 2018 companies thought they got their houses in order for GDPR compliance. Most consumers certainly thought they had, given how many opt in notifications they received in their inboxes.
  However, many companies skirted around the edges of compliance, especially US companies. In 2019 we will see European authorities start to police compliance more sternly. Expect some big sacrificial lambs in 2019 to scare the rest of the marketplace into compliance. They will also aim to educate the world that this is not a European problem, so expect some of those companies to be American. Watch your back Facebook.
• Big data backlash: By now companies have more data, data scientists and data dashboards than they know what to do with. 2019 will see some of the smarter companies start to realise that just because you can track it does not mean that you need to track it. Many companies are beginning to experience data paralysis, confounded by the deluge of data, with management teams unable to decipher the relevance of the analysis put together by their data scientists and BI teams. A simplified, streamlined approach is needed and 2019 will see the start of this.
• Voice, AI, machine learning (and maybe AR) all continue on their path: These otherwise disparate trends are pulled together for the simple reason that they are long-term structural trends that helped shape the digital economy in 2018 and will continue to do so in 2019. Rather than try to over simplify into some single event, we instead back each of these four trends to continue to accelerate in importance and influence. 

For music, video, media, brands and games specific predictions, MIDiA clients can check out our report here. If you are not a client and would like to get access to the report please email arevinth@midiaresearch.com.

Mid-Year 2018 Streaming Market Shares

Music subscribers grew by 16% in the first half of 2018 to reach 229.5 million, up from 198.6 million at the end of 2017. Year-on-year the global subscriber base increased by 38%, adding 62.8 million subscribers. This represents strong but sustained, rather than strongly accelerating, growth: 60.8 million net new subscribers were added between H1 2016 and H1 2017. This indicates that subscriber growth remains on the faster-growth midpoint of the S-curve. MIDiA maintains its viewpoint that this growth phase will last through the remainder of 2018 and likely until mid-2019.

This will be the stage at which the early-follower segments will be tapped out in developed markets. Thereafter, growth will be driven by mid-tier streaming markets such as Japan, Germany, Brazil, Mexico, and Russia. These markets have the potential to drive strong subscriber growth, but, in the case of the latter three, will require aggressive pursuit of mid- tier products – including cut-price prepay telco bundles, as seen in Brazil. Without this approach, the opportunity will be constrained to the affluent, urban elites that have post-pay data plans and credit cards. These sorts of products though, will of course deliver lower ARPU in already lower ARPU markets. All of this means: expect revenue to grow more slowly than subscribers from mid 2019.

The key service-level trends were:

• Spotify:Spotify once again maintained global market share of 36%, the same as in Q4 2017, with 83 million subscribers. Spotify has either gained or maintained market share every six months since Q4 2016. Spotify added more subscribers than any other service in H1 2018 – 11.9, which was 39% of all net new subscribers across the globe in the period.
• Apple Music:Apple added two points of market share, up to 19%, and up three points year-on-year, with 43.5 million subscribers. Apple Music added the second highest number of subscribers – 9.2 million, with the US being the key growth market.
• Amazon:Across Prime Music and Music Unlimited Amazon added just under half a point of market share, stable at 12%. Amazon experienced the most growth within its Unlimited tier, adding 3.3 million to reach 9.5 million in H2 2018. In total Amazon had 27.9 million subscribers at the end of the period.
• Others:There were mixed fortunes among the rest of the pack. In Japan, Line Music experienced solid quarterly growth to reach one million subscribers, while in South Korea MelOn had a dip in Q1 but recovered in Q2 to finish slightly above its Q4 2017 figure. Elsewhere, Pandora had a solid six months, adding 0.5 million subscribers, while Google performed strongly on a global basis

The mid-term report card for the music subscriptions market in 2018 is strong, sustained growth with a similar second half of the year to come.

Tech Majors Market Shares Q2 2018

The tech world has no shortage of acronyms for the big tech companies (GAFA, GAAF, Fang, the four horsemen…). At MIDiA we like to keep things simple, just like the major record labels and major TV studios we call the big four tech companies the Tech Majors. Each quarter the MIDiA team deep dives into the financial filings of Alphabet, Amazon, Apple and Facebook to create our quarterly Tech Majors Market Shares reports. (The Q2 edition is available to clients here.). In these reports we focus on the metrics that are most important for media and content companies. Here are some highlights of our latest report.

Tech major Q2 2018 revenue totalled $152.1 billion, down from Q1 2018 – $155.3 billion –  but up 28% from Q2 2017 and 51% from Q2 2016. These growth rates mirror the year-on-year Q1 growths for 2016, 2017 and 2018. The tech majors are thus as a group growing at a consistent rate, despite seasonality and differences as a company level.

Q2 2018 was a quarter of winners and losers for the tech majors. All four companies reported strong revenue growth but Facebook missed some Wall Street estimates and saw $119 billion wiped of its stock value, the single biggest one day loss in US stock market history. Meanwhile Apple beat analyst estimates, in part due to booming services revenues, and ended up becoming the first ever company to have a market capitalization $1 trillion. Amazon and Alphabet both had solid quarters but it is the extremes of Apple and Facebook that provide salutary evidence of the risks that lie ahead for the tech majors. All four companies continue to grow at highly impressive rates despite already being of vast global scale and the dominant player in each of their respective core markets. But the potential of the consumer tech marketplace is finite and growth will slow. Even though Silicon Valley eagerly awaits the next billion digital consumers, these consumers will be lower spending and predominately in markets where most tech majors are not strong, such as India and sub-Saharan Africa.

Services revenue on the up

Tech major advertising and services revenue – the two revenue streams that most directly impact the businesses of media and content companies – totalled $60.7 billion in Q2 2018, up 32% YoY. Tech major advertising and services revenue growth is accelerating and becoming a progressively larger share of total tech major revenue, growing five points, up to 40% in Q2 18.

Services is still the junior partner by some distance, representing 29% of combined advertising and services revenue in Q2 18, but growing one point a year. Nonetheless, tech major services revenue for the 12 months up to Q2 18 was $64.8 billion which was 3.7 times more than global recorded music revenue in 2017 and 19% of global TV revenues in 2017.

Read the full report hereor email stephen@midiaresearch.comto find out how to get access.

Could Article 13 Kill Off Music on YouTube?

It was a day of two halves for YouTube. On one side a big press release went out championing a host of impressive new stats – including hitting 1.9 billion logged in users, following an official launch of YouTube Musicthe day before. Meanwhile, on the other side, the European parliament’s legal affairs committee voted in support of Article 13, whichwill overturn some basic premises of the fair use / safe harbour frameworks under which YouTube operates. The question is which half will prove to be most impactful on YouTube’s music strategy.

It’s complicated

If YouTube was to post the status of its relationship with the labels on its Facebook profile it would be ‘It’s complicated’. The whole value gap argument – which posits that YouTube does not pay as much as other streaming services because it does not have to directly license in the way they do – has created a war of words characterised by obfuscation and disinformation on both sides. Its super-recent new premium strategy was almost certainly timed to coincide with this vote and it helps present YouTube as a premium player, doing what the labels want.

But fundamentally, Google and its YouTube subsidiary are all about selling advertising. If you put too many of your most valuable customers behind an ad-free pay wall, advertisers will eventually stop paying as much for ads. Google is not about to kill off a large scale, high-margin business for a small scale, low margin one. In short, Google cannot afford for music subscriptions to be too successful.

The three numbers that matter

The EU vote will likely get pushed to a full parliamentary vote, so the legislative picture is still far from resolved. When determining the outcome, policy makers, YouTube and rights holders should consider three metrics: $0.0020, -51% and 171:

• $0.0020: In the US, where there is a strong video ad market, effective per stream rates for YouTube actually increased by 14% in 2017 to $0.0020. Bet you haven’t heard that spoken about much by rights holders? Globally however, the rate fell for labels but, interestingly, was about flat for rights holders overall (publishers get paid on videos—such as cover versions, so there are more videos they get paid on, labels do not).What it means:YouTube’s US experience shows market economics can reduce the value gap.
• –51%: This was Spotify’s gross margin on ad supported in Q1 2016. By Q1 2018 it had risen to 13%. This was in large part because the labels had cut Spotify better deals on ad supported, which meant that the difference between what YouTube pays and what Spotify pays now is smaller than it was in 2016 when the value gap lobbying was in full effect. What it means: the labels have reduced the value gap!
• 171: This is how many days it took on average for music videos to reach one billion views in 2017. In 2010 it took 1,841. YouTube has become far more effective at turning songs into hits, thus making it more valuable to the music business than ever before. Major record labels are in the business of making superstars, but superstars need massive global audiences to turn them into global brands—much bigger audiences than you get behind a Spotify paywall. The majors need YouTube’s scale to make global successes. What it means: the labels need YouTube as much as it needs them.

Commercial sustainability is the core issue

At the heart of the value gap argument is a fight for control. Rights holders want more control over YouTube to extract better deals and YouTube does not want to cede that control. But there is an argument that YouTube’s greater control enabled it to build a commercial sustainable model. Spotify, which does not have YouTube’s negotiating power, is still not generating a net profit on streaming. On a sliding scale, there are label-defined rates with a non-commercially sustainable business model at one end, while at the other end there is YouTube, which does not pay rights holders what they want, but has a commercially sustainable model. The solution clearly lies somewhere between the two extremes. Moreover, what is crucial, if YouTube is going to remain incentivised to continue to make music videos a success, is that rights payment need to be a share of revenue, not based on a minimum per track fee.

Would YouTube walk away from music?

Spotify is, for now at least, all about music, so it has to make it work. YouTube is not. If music suddenly becomes lower margin for YouTube with fixed per stream costs, then it would be commercially foolish for YouTube to do anything other than push its viewers to other forms of content than music. That 171-day metric didn’t happen on its own. YouTube honed its algorithms to ensure it can make hits faster for the music industry, but it can dial that back in an instant.

There is even a possibility that paying more for music rights could scupper YouTube’s entire business model as other types of rights holders might start demanding better rates too. The crux of the matter is that the current economics suit YouTube but not rights holders. What we have to be careful to avoid is a new paradigm where roles are reversed. As important as music is to YouTube, Google could walk away if it really wanted to. Rights holders—labels especially, need to think whether that is a price they are willing to pay.

Could Spotify Buy Universal?

Vivendi is reported to be proposing to its board a plan for spinning out Universal Music. It is certainly the right time for a spin off (always sell before the peak), but a full divestment would leave Vivendi unbalanced and a shell of its former self. Canal+ is facing the same Netflix-inspired cord-cutting pains as other pay-TV operators (and is relying heavily on sub-Saharan Africa for subscriber growth), while other assets such as those in Vivendi Village have failed to deliver. With CEO Vincent Bolloré having invested heavily in Vivendi, he would be devaluing his own wealth. For a man who is not shy of saying that he’s in the game to make money, this scenario simply doesn’t add up. As one investment specialist recently suggested to me, this talk of a spin-off is probably exactly that, talk. Talk aimed at driving up Vivendi’s valuation by association and, at most, potentially resulting in a partial spin-off or partial listing. However, it is not beyond the realms of possibility that a big enough offer for Universal would persuade Bolloré to sell. So, let’s for a moment assume that Universal is on the market and have a little fun with who could buy it.

The Chinese option

It is widely rumoured that Alibaba was in advanced discussions with Vivendi to buy some size of stake in Universal. Those conversations derailed when the Chinese government tightened up regulations on Chinese companies buying overseas assets, which is why we now see Tencent buying a growing number of minority stakes in companies rather than outright acquisitions. So, an outright Chinese acquisition is likely off the table. This doesn’t rule out other Asian bidders (Softbank had an $8.5 billion bid rejected in 2013), though perhaps Chinese companies are the only ones with the requisite scale and access to cash that would meet a far, far higher 2018 price point.

The tech major option

The most likely scenario (if Universal were for sale) is that one of the tech majors (Apple, Alphabet, Amazon, Facebook) swoops in. Given Google’s long-held antipathy for the traditional copyright regime, Alphabet is not the most likely, while Facebook is too early in its music journey (though check back in 18 months if all goes well). Apple and Amazon are different cases entirely. Both companies are run by teams of older executives whose formative cultural reference points were shaped by traditional media companies. These are companies that, even if they may not state it, see themselves as the natural evolution of media, moving it from the physical era of transactions to the digital era of access. Thus far, Apple and Amazon have focused principally on distribution, although both have invested in rights too. Apple less so, (e.g. Frank Ocean, Chance the Rapper) but Amazon much more so (e.g. Man in the High Castle, Manchester by the Sea). Acquiring a major media company is a logical next step for Amazon. A TV studio and, or network would likely be the first move (especially as Netflix will likely buy one first, forcing Amazon’s hand), but a record label wouldn’t be inconceivable. And it would have to be a big label – such as UMG, that would guarantee enough share of ear to generate ROI. Apple though, could well buy a sports league, which would use up its budget.

The Spotify option

While the tech majors are more likely long-term buyers of Universal, Spotify arguably needs it more (and is certainly less distracted by other media formats). Right now, Spotify has a prisoner’s dilemma; it knows it needs to make disruptive changes to its business model if it is going to create the step change investors clearly want (look at what happened to Spotify’s stock price despite an impressive enough set of Q1 results). But it also knows that making such changes too quickly could result in labels pulling content, which would destroy its present in the hope of building a future. Meanwhile, labels are worried Spotify is going to disintermediate them but can’t risk damaging their business by withdrawing content now – hence the prisoner’s dilemma. Neither side dares make the first move.

That’s the problem with the ‘do a Netflix’ argument: do it too fast and the whole edifice comes tumbling down. Moreover, original content will not be the same silver bullet for Spotify as it was for Netflix. This is mainly because there is a far smaller catalogue of TV content than music, so a dollar spent on original video goes a lot further than a dollar spent on original music. It is not beyond the realm of possibility that Spotify will get to a tipping point, where the labels see a shiny-toothed wolf lurking under the lamb’s wool, and with its cover blown it will be forced to go nuclear. If this happened, buying a major label would become an option. And, as with the tech majors, it would have to be a major label to deliver enough share of ear.

But that scenario is a long, long way off. First, Spotify has to prove it can be successful and generate enough revenue and market cap to put itself in a position where it could buy a major. And that is still far from a clear path. For now, Spotify’s focus is on being a partner to the labels, not a parent company.

All of this talk might sound outlandish but it was not so long ago that an internet company (AOL) co-owned Warner Music and a drinks company (Seagram) owned Universal Music, before selling it to a water utilities company (Vivendi), and, long before that, EMI was owned by a light bulb company (Thorn Electrical Industries). We have got used to this current period of corporate stability for the major record labels, but this situation is a reflection of the recorded music business being in such a poor state that there was little M&A interest. Nonetheless it is all changing, potentially heralding a return to the past. Everything has happened before and will happen again.