Assignment 04.

1: Case Study

Selene De León

Business, National American University

MT4450 Strategic Management

Professor Rolland Story

4th December 2022

 Spotify is a highly successful music streaming application. Daniel Ek and Martin
Lorentzon founded Spotify in 2006 as a small startup in Stockholm, Sweden. Citing
Thompson, Peteraf, Gamble and Strickland (2021) “Ek, and Spotify came to revolutionize
the music industry, Daniel Ek knows well that to remain competitive, the company needs to
differentiate its products and services.”

Spotify is a brand that bases its strategies on changes in the environment and
innovation. It has a dynamic proposal that grows along with the development of social
networks. At the same time, it is an ally of the music industry, as it has allowed its revenues
to grow again in the face of the challenges of piracy and the internet using file sharing
services.

Spotify's main competitive advantage has been its influence on social networks, the
creation of playlists and, especially, the possibility of following people with similar musical
tastes. There are also its growth strategies as mentioned Thompson, et. al. (2021) that
“include an ad-based business model allowing for both a free and paid subscription, global
expansion into different markets exponentially growing its number of subscribers, multiple
acquisitions that add new competencies and capabilities, and brand-name partnerships with
industry leaders such as Disney, Xbox, and Samsung among others.”

This platform offers a service tailored to the needs of each user, allowing them to
integrate online music and interact with other users from the same platform easily. Another
advantage of Spotify that benefits its users is that it has agreements with different cell
phone operators.

However, Spotify is a company with enormous difficulties from a competitive

standpoint. On the one hand, it is part of a highly competitive industry, which means that
the more competitors there are (Apple Music, Pandora, Amazon Prime Music, Tidal and
YouTube Music) the more likely it is that the company's profitability will decrease. On the
other hand, its sales costs are very high due to the fact that industry suppliers, i.e. record
labels, take a very large portion of the revenues generated by artists and albums.
 Another of the difficulties that the Spotify company faces is that it has been rated as
the worst payer of royalties, despite having increased the rate in 2019.

The biggest problem Spotify faces is that they still haven't managed to be highly
profitable in operations or consolidate their business model. Despite having 130 million
subscribers across 79 markets, they still have not managed to generate enough profit to
make the business sustainable.

In order to better analyze this case study, a SWOT analysis of it is detailed below.

Strengths Weaknesses

1. Large number of subscribers and international 1. Heavy reliance on artists and record companies.
presence. 2. Null content generation.
2. Leading streaming company worldwide. 3. Negative profitability.
3. User experience of platforms. Continuously 4. High operating costs, mainly due to royalties.
looking for new “habits in their streaming 5. Rated as the worst payer of royalties
intelligence”- Spotify.me
4. Alliances with record companies and artists.
5. Strategic Alliances: growth through Partnerships:
Facebook, Shazam, Starbucks, Sony, Addidas,
AT&T, Xbox, Disney, etc.
6. Grow through acquisitions. Tunigo, The Echo
Nest, Cord Project, The Ringer, etc.
7. Spotify takes the design of their website very
seriously: Spotify’s focus is on delivering a
country-to-country, culture-to-culture, and
person-to-person unique experience that varies
but is equal in measure
Opportunities Threats

1. Growing Streaming Market. 1. Big competitors such as Amazon, Apple,

2. Spotify for Artists. YouTube that can quickly change the market.
3. Possibility to integrate vertically. 2. Exclusive artists of the competition.
4. New services such as LiveStreaming, videos, 3. Loss of loyalty, financing and cash flow.
Podcasts, etc. 4. Concentration of content copyrights.
5. Increasing price to generate profitability.
Figure 1: Own elaboration: SWOT Spotify
Strengths:               

a. Leadership position in the market:

Spotify was one of the first companies to develop a simple Streaming platform with
a large catalog of songs to combat piracy and illegal downloading of music. This enabled it
to gain a foothold in a market of big players and position itself as a leader in the industry.
b. International presence and user base:

Since its inception, the company has had an aggressive expansion worldwide
strategy to scale the business to scale the business and achieve user volume and revenue.
Which allowed it to obtain a large base of active users who use the platform on different
devices on a daily basis.

c. User experience

Spotify's heavy R&D investments have allowed it since its inception to develop an
easy, simple and secure platform that users enjoy for listening to music. This feature is one
of what has allowed the company to continue its growth despite the arrival of new
competitors.

As Thompson et. al (2021) mentioned “Spotify is continuously looking for new

“habits in their streaming intelligence” to learn more about how people stream.” For this
reason, Spotify introduced Spotify.me, “a data analytics program to capture subscribers'
listening habits. The data captured allows the company to generate content that users find to
be in line with their tastes, creating a unique user experience and keeping users engaged.”
(Thompson, et al. 2021, p. C-118)

d. Alliances with record companies and artists

Alliances with record companies to have a wide catalog of music on its platform
have platform, has allowed the company to develop its user base and position itself as a
leader.

However, as already mentioned, royalties for author's rights imply large expenses
for the company. entail large expenses for the company. Also, it is worth noting that the Big
Three (Universal, Warner and Sony) have invested in Spotify and have even invested in
Spotify and until its IPO they had a 16% stake in the company, according to data exposed
by Nick Statt (The Verge, 2022).

e. Strategic Alliances:

Spotify’s Partnerships have also strengthened the company’s competitive position

by expanding its market access and strategic collaborations mostly through bundling of
services. Facebook, Shazam, Starbucks, Sony, Addidas, AT&T, Xbox, Disney, etc.

f. Growth through Acquisitions

Spotify has strengthened their competitive position through a series of targeted and
timely acquisitions. Tunigo, The Echo Nest, Cord Project, The Ringer, etc. Each acquisition
has resulted in a stronger competitive position and new market opportunities. (Thompson,
et al. 2021, p. C-114)

Weaknesses:

a. Heavy dependence on artists and copyrights

While Spotify's extensive catalog has been highlighted as a strength, the platform
relies on artists' content and songs. This means that, in the event of any or contingency with
an artist or rights owner, the company could lose users and its leadership position.

In the past, there have been cases where artists have decided to remove their works
from Spotify and this has had a negative impact on the company.

For example, the case of the famous singer Taylor Swift who in 2014 decided to
remove his repertoire from Spotify. Although the latter then in 2017 decided to return
acclaiming that the royalties for reproduction improved according to Thompson, et. al.
2021, p. C-121.

The debate is still open and is something that Spotify like other companies will have
to take into account. Less popular artists claim that the current method of royalty payments
benefits only "popular" artists while it is not fair to the rest who are niche or lesser known.
Some of these artists, are demanding that the company change its royalty distribution
method to a user-based system.

b. No content generation

In line with the previous point, and the strong dependence, a weakness is the lack of
content directly generated by Spotify. While the company has developed algorithms to
generate playlists, suggestions and other functionalities, it has not yet opted to start
generating its own content through artists.

According to its founder and CEO, in an interview and research conducted by Ben
Sisario for NY Times (2018) the company does not aim to become a record label, but in
2018 it has been rumored that the company plans to start dabbling in the development of
"indie" artists.

These new initiatives may be a starting point to begin generating their own content,
as Netflix has done in the audiovisual industry.

Should they decide to move forward, it is understood that Spotify will be able to
increase its profitability and generate profits for its shareholders, that by not having the
record companies as intermediaries, artists will be able to obtain higher profits from the
reproduction of their music. It will be important to analyze how record companies react to
these initiatives.

c. Negative profitability:

Although Spotify has “total revenues of €1.848 billion and these grew by 22% year-
on-year in Q1 2020. Premium revenue grew 23% y-o-y to €1.7 billion, in line with
expectations. Advertising revenues grew by 17% year-on-year, but fell short of
expectations; according to the company, this decline was a consequence of COVID-19”.
(Thompson, et. al. 2021, p. C-122). This situation can lead to a loss of confidence or
pressure from shareholders, which may put pressure on the company to increase its
revenues, thus reducing its number of users and its market position.

d. High royalty costs

It is vital for the continuity of the company to be able to work on royalty costs so
that artists and rights owners (record companies) are satisfied, but also to be able to lower
costs and thus generate operating profits, which was only achieved in one quarter and never
in a full year.

e. Rated as the worst payer of royalties.

This point was mentioned earlier in the Case Study “the company was once ranked
as the worst royalty payer, but increased its payments, and as of 2019, they began paying
between $0.00331 and $0.00437 per stream to rights holders.” (Thompson, et. al. 2021, p.
C-120)

Opportunities:

a. Growing Streaming Service

The connection and boom of smartphones in the world have allowed streaming to
grow in recent years and become the main source of streaming to grow in the last few years
and turn into the main source of the music industry.    While Spotify and other competitors
have been providing their services for several years, there are still underdeveloped markets
that provide an opportunity for growth for service providers.

b. Spotify for Artists.

To mitigate the negative perception of Spotify's image with artists. Spotify has
created a powerful set of tools for artists to maximize their presence and help them find and
connect with an audience. “The company launched “Spotify for Artists” page in 2017; it
was a place where artist teams, labels, and distributors could manage their profiles, see, and
analyze their data, and pitch playlists.” (Thompson, et. al. 2021, p. C-120)

But this company is always looking for opportunities for everyone to make a profit.
“Spotify Analytics was also launched for labels and distributors to access and create
playlists as they support their artists: Artist picks, a separate tool, allows artists to know
who is playing their music and where they are listening.” (Thompson, et. al. 2021, p. C-
120)

Spotify's innovative ideas never cease to amaze the music industry. And so it
launched at the end of 2019 "Music for you", with the purpose that record companies could
pay visual pop-up ads for their artists to promote themselves among fans. (Thompson, et.
al. 2021, p. C-120)

b. Vertical integration forward

According with Thompson, et. al. (2021) “Like backward integration, forward
integration can enhance competitiveness and contribute to competitive advantage on the
cost side as well as the differentiation (or value) side. On the cost side, forward integration
can lower costs by increasing efficiency and reducing or eliminating the bargaining power
of companies that had wielded such power further along the value system chain. It can
allow manufacturers to gain better access to end users, improve market visibility, and
enhance brand name awareness.”

The possibility of vertical integration provides Spotify with an opportunity to earn

higher revenues and differentiate itself from its competitors. While this would imply
developing businesses outside its core business, it could allow it to become the absolute
leader in the industry. Some of the opportunities for vertical integration may include the
following:

- Artist and content development. A strategy similar to that employed by

Netflix in the audiovisual industry.

- Development of accessories and equipment for music reproduction, such as

headphones, audio equipment, cell phones, tablets. Although it has already created a
strategic alliance with Samsung.

- Offering other types of content such as Podcasts, a format in which it has already
made an investment.

The possibility of vertical integration provides Spotify with an opportunity to earn

higher revenues and differentiate itself from its competitors. While this would imply
developing businesses outside its core business, it could allow it to become the absolute
leader in the industry. Some of the opportunities for vertical integration may include the
following:

- Artist and content development. A strategy similar to that employed by Netflix in

the audiovisual industry.

- Development of accessories and equipment for music reproduction, such as

headphones, audio equipment, cell phones, tablets. Although it has already created a
strategic alliance with Samsung.

In 2019, Spotify and Samsung announced the expansion of their collaboration.

Samsung provided users with access to Spotify on Samsung mobile devices, and all new
Samsung mobile devices globally would include the Spotify app preinstalled. The new
devices qualified for six months of free Spotify Premium. (Thompson, et. al. 2021, p. C-
117)

- Offering other types of content such as Podcasts, a format in which it has already
made an investment.    As mentioned by Thompson, et. al. (2021) “In the race to remain
competitive, Spotify paid more than $340 million just in the past year acquiring podcast
companies. Streaming services and the subscription market will continue to grow from
approximately $8 billion in 2019 to over $17 billion by 2024.”

c. New services

In addition to the possibility of vertical integration, the company has the opportunity
to develop new services such as a platform for listening to live artists or playing videos on
the platform, among others.

These new services would allow the company to diversify and leverage new
proposals with the large number of users it currently has.

d. Increase in the price per subscription

As mentioned above, the company has not yet been able to generate profits that
would allow it to be self-sufficient and sustainable over time.    However, there is an
opportunity to increase the subscription price while keeping costs stable, thus increasing its
profitability.

While this is a viable option, to date the company has chosen to expand in order to
achieve a large user base. With a price increase, there is a risk that many users may decide
to stop subscribing, so it will be important to evaluate the degree of user loyalty and the
possible consequences of such an increase.
 Threats:

a. Large competitors

In recent years, large companies such as Amazon and You Tube Music have decided
to launch Streaming services. But there are other companies that have a long track record,
such as Apple. These companies have been successful in various businesses so they can
quickly climb positions in the market and threaten the dominant position that Spotify
currently has.

On the other hand, these competitors also offer their users the physical formats to
play music such as cell phones or other equipment, and also in the case of Apple the
operating system of the phones where to download Spotify. But Apple offers on their
phones Apple Music, where “users can listen to local radio stations around the world,
download and stream music to an Apple Watch, enjoy music in a car with CarPlay, and ask
Siri (Apple’s A.I.) to search for songs.” In addition, Apple also represents a major threat to
Spotify “because Apple does not have a free tier, other than its initial 3-month free trial,
they have secured more exclusives with artist.” (Thompson, et. al. 2021, p. C-118)

These competitors are a major threat to Spotify because, in addition to easily

capturing users, they have the ability to change the rules of the game and easily capture
users, and impose new business models.

b. Exclusive artists

In addition to the threat of large competitors, there is also the possibility that certain
artists may decide to make their catalogs available only on certain platforms.

It has happened in the last few years that, as a way of launching certain artists
decided to release songs or albums exclusively on Apple or Tidal.    This generates the
possibility that users who are fans of these artists will abandon their Spotify subscription
for another competitor.

To counteract this, Spotify must invest large sums in order to have exclusive or
shared artists.
 c. Cash Flow and Financing

As explained above, the company has not yet been able to generate profits and has
been able to maintain itself thanks to the financing obtained and strategic alliances to grow
its market. As In the event of a possible loss of confidence, financing could fall and the
company could have cash flow problems that could damage its operations.

d. Copyright concentration

The most popular artists on Spotify are mainly represented by the major record
companies, Sony, Warner and Universal.

The fact that these three companies have the majority of concentrated rights is a
threat given that, in the event of any conflict with any of them, all three may decide to
withdraw their catalogs from the platform and this would result in a drop in users for
Spotify.

Before making recommendations, it is important to consider the results of my own

financial analysis of the company, using at least three relevant financial ratios from Table 1
of the "Guide to Case Analysis".

Profitability ratios    

Gross profit margin: According with Thompson et. al. (2021) “this ratio shows the
percentage of revenues available to cover operating expenses and yield a profit. Higher is
better and the trend should be upward.” (Thompson, et. al. 2021, p. CA-5)

Operating profit margin (or return on sales): “Shows the profitability of current
operations without regard to interest charges and income taxes. Higher is better and the
trend should be upward.” (Thompson, et. al. 2021, p. CA-5)

Free cash flow: “A quick and rough estimate of the cash a company’s business is generating
after payment of operating expenses, interest, taxes, dividends, and desirable reinvestments in the
business. The larger a company’s free cash flow, the greater is its ability to internally fund new
strategic initiatives, repay debt, make new acquisitions, repurchase shares of stock, or increase
dividend payments.” (Thompson, et. al. 2021, p. CA-5)
 In this Case Study of Spotify´s according to table shown by Thompson et.al (2021)
which in the year 2019 shows a Gross Profit of 474 and then in the year 2020 drops to 472,
the same happens with its Gross Margin in the year 2019 counts with 25.6% and drops in
the year 2020 to 25.5%

Spotify's profit and gross margin ratios tell us that the company's profitability is not
optimal, there is still work to be done, the company is probably not pricing its products and
services correctly and is losing money. It also represents a tool for investors to analyze how
the company is using its money.

The Free Cash Flows in the year 2019 is 169 and for 2020 they have a negative
value of 21. It means that current assets are reduced. It is one of the worst scenarios for a
company, because it can lead to bankruptcy. It occurs when cash outflows are greater and
faster than cash inflows.

Despite Spotify's global leadership and expansion, the company has yet to generate
a profit for its shareholders. As analyzed, it is still in a stage of expansion to new markets in
order to increase its monthly subscriber base, which will allow it to generate higher profits.
This expansion strategy, coupled with high copyright royalty costs, means that the company
continues to incur annual losses.

However, despite this situation Spotify has a high market valuation and has been
able to go public successfully float on the stock market. The expectation of growth and the
boom in investors continue to have confidence in the company and its future returns.

By analyzing the SWOT matrix to explain the company's situation and understand
what risks and opportunities it has, the following recommendations are made. While the
company has a leading market position, it will be important to see how in the future it can
generate profitability for its shareholders while continuing to increase its active user base
under the subscription model.

Based on the analysis conducted in this research, future scenarios for Spotify are
proposed that will need to be evaluated in order for it to continue its growth and generate
profits for its shareholders. Some of the initiatives outlined below are options that Spotify
has already begun to develop.

Recommended Strategic Changes:

Vertical Integration: Company-owned content.

Following the Netflix model with in-house productions, it may be considered a

viable option for Spotify to try to avoid large royalty costs by Spotify's attempt by
producing its own artists can be considered a viable option.

While it is not a small investment, in this way it could lower its operating costs. At
the same time, like Netfilx, Spotify has a wealth of information about the users' tastes and
preferences, so it could take advantage of this information to produce artists that match user
trends.

The company has started with this initiative; however, its CEO has stated in the NY
Times (2018) article by Ben Sisario that Spotify's intention is not to become a record label.
This statement is based on the fact that Spotify's catalog is currently controlled mostly by
artists belonging to the Universal, Warner y Sony Music, and in case of a threat to their
business, the reaction of these companies could be to remove their principals from the
platform, which would severely damage to Spotify's business.

In case it is decided to continue with this initiative, it will be important to observe

the reaction of the owners of the rights and how this relationship continues. In the film
industry, Netflix is a clear success story that currently offers major productions as part of its
service.

Diversification and New Businesses

Podcasts

Spotify is known as the platform that allowed the industry to fight piracy and return
to generating royalty income. Despite this, the company has decided to invest in other types
of content such as Podcasts to capture more users. To accomplish this goal, the company
acquired two major podcast companies. As explained by Thompson, et . al. (2021) in their
book, Spotify acquired Gimlet Media, a podcasting company, and Anchor FM Inc., a
company specialized in providing podcast creators with tools to publish, edit and monetize
their episodes. The investment was approximately 400 million dollars, and allows Spotify
to position itself as a leader in a market that has been growing year after year.

The strategy of diversifying its content and being able to develop podcasts on its
platform would provide Spotify with a new audience and the possibility of increasing its
revenues without high royalty costs. It will be important to evaluate how the podcast
market evolves in the world where it is still in its infancy and also if competitors such as
Google or Amazon decide to put more emphasis on this business. Apple was among the
first to launch a special smartphone app for podcasts and currently has 52% of the market
share, according to the report conducted by Septillion for the company Anchor (2018)
before being acquired by Spotify.

Despite the global uncertainty around COVID-19 Thompson et. al. (2021) mention
“while Car and Commute consumption had changed dramatically due to an increase of
work-from-home, there was an increase in podcast listening. Two in five people surveyed in
the United States stated they listened to music to manage stress, which explained the
increase in podcasts related to wellness and meditation”. (Thompson, et. al. 2021, p. CA-
121)

Devices and Accessories

Another vertical integration option would be the development of accessories or

devices to play content. As for example Apple has done by investing in Beats headphones,
or Amazon with "Alexa" and Smart speakers. In this way, Spotify could diversify its
business and generate greater profitability. Although the company has no experience in
these products, it could develop them or acquire a company that is already providing this
type of devices.

Live Streaming

Finally, Spotify has the possibility of developing live streaming to offer its users
live concerts, either in video or audio only. In this way, it could capture a growing market.
By having the technological capacity and the users, Spotify could take advantage to offer
this type of service. Although it is an interesting opportunity for the company, it must be
taken into account that companies such as Facebook and Google are already providing this
type of service, so competition is high.

Reference List

Thompson A., Peteraf M., Gamble J., & Strickland A. (2021). Crafting & Executing

                      Strategy: The Quest for Competitive Advantage: Concepts and Cases.

                      [VitalSource Bookshelf]. Retrieved from

                      https://bookshelf.vitalsource.com/#/books/9781264250165/

Search. (n.d.). The Verge. https://www.theverge.com/search?q=spotify

Sisario, B. (2018, 29 septiembre). EMusic Returns to Indie Roots Amid Shift in Online
Market. The New York Times. Retrieved from:
https://www.nytimes.com/2014/09/30/business/media/emusic-returns-to-indie-roots-amid-
shift-in-online-market.html?searchResultPosition=4