In Apple-Spotify World, SoundCloud Can’t Find Room

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There are very few music platforms at this tremendous scale

After years of trading physical dollars for digital dimes, the music industry is finally seeing a payoff. Subscriptions to streaming music services jumped about 50 percent in 2016, topping 92 million. For the first time since the heyday of CDs, revenue for the largest record labels is consistently rising. But things don’t look as bright for streaming companies driving revival.

Spotify, the biggest platform, has swallowed huge losses while paying about 70 percent of its revenue to record labels and publishers. It’s attempting to renegotiate those deals before a planned initial public offering this year. Pandora, which has consistently lost money throughout its 15 years, is trying its hand at a pricier subscription model based on technology from Rdio, another struggling service it bought in 2015. Streaming services Rhapsody and Deezer face similar problems, and internet radio company IHeartRadio is trying to stave off bankruptcy. Services from Apple, Amazon.com, and Google are used largely to lure people to the companies’ other businesses.

“It is virtually impossible to run a streaming-music service as a profitable business,” says Mark Mulligan, a former dance club DJ who’s the founder of industry analyst Midia Research. “The model is still broken.”

No company exemplifies the travails of digital music services better than SoundCloud. Founded in 2007, the Berlin company has attracted about 175 million users with 135 million tracks of easy-to-share remixes, podcasts, and user-generated content. SoundCloud is beloved among artists and fans, and a darling of the European startup scene. It’s also facing an uncertain future. User growth has stalled, ad sales haven’t taken off, and adoption of its nine-month-old paid service, SoundCloud Go, has been weak. (Mulligan estimates fewer than 250,000 people signed up.)

SoundCloud’s negotiations to sell to Spotify fell apart in recent weeks because the two sides couldn’t agree on a price, says a person familiar with the discussions. Some of the most loyal SoundCloud fans are migrating to similar services, such as Mixcloud. And some prominent DJs have worked out deals to post mixes legally on Spotify and Apple Music. If SoundCloud can’t come up with a sustainable business model, it will have to find another buyer or raise more money, likely at a lower valuation than the $700 million it negotiated when Twitter invested last year.

“They are in trouble,” says Matt Pincus, chief executive officer of Songs Music Publishing, which represents artists including the Weeknd and Lorde.

SoundCloud CEO Alexander Ljung declined to discuss the Spotify talks or the company’s finances beyond saying that subscription and ad revenue are growing. He says his company has a distinct advantage over Spotify and Apple Music because it’s the only service to combine a library of mainstream songs with a massive catalog of tracks created by and for young tastemakers. “There are very few music platforms at this tremendous scale,” Ljung says. “We are one of them.”

SoundCloud board member Fred Wilson, an early investor, says digital music has reached an inflection point and most consumers are ready to transition from owning music to streaming it online. Even if record labels continue gobbling the bulk of the revenue, “the platforms that get all the way through to the finish line are going to have great businesses,” Wilson says, citing Amazon and Netflix as examples in other fields.

Streaming services can offer artists bigger royalties than their label deals. Major labels get about 1/20 of a cent each time a song is streamed, and the artists get about 15 percent of that, Mulligan says. Last year, singer Frank Ocean dealt directly with Apple Music to release his album Blonde, cutting out Universal Music Group. “That’s a sign of what’s coming,” says Stephen White, CEO of music-licensing marketplace Dubset.

It remains unclear whether SoundCloud will be able to enjoy the benefits of having pioneered this kind of shift in distribution. In 2014, before Apple Music existed, SoundCloud was preparing to take the fight to Spotify’s $10-a-month paid subscription, developing a $4 monthly service to pair its user-generated content with a library of new releases and pop, according to a former manager involved in the effort.

This bid to become a cheaper Spotify was a bet-the-company moment, the former manager says, and the subscription service’s developers circulated a beta version among employees while waiting for the record labels to buy in. In negotiations with music labels, SoundCloud even began purging user-generated mixes that ran afoul of copyright and sidelining search features to make pirated tracks harder to find.

None of it worked. Two of the largest labels, Universal Music Group and Sony Music, withheld support for almost two years. By March, when SoundCloud Go was finally released, it cost $10 a month, not $4, and its library of about 15 million professional tracks was about half the size of Spotify’s and Apple Music’s. By then, several former employees say, they had grown frustrated and left.

Wilson, the board member, says SoundCloud doesn’t get enough credit. It’s the first company since YouTube to expand from a platform of user-generated content to become a licensed service. “We had to buckle down and work very hard to overcome a tremendous amount of challenges to get through that,” he says. “I see the company as coming out of a very challenging time, not going into a challenging time.”

With rights deals so expensive, it’s tough for even many of the top streaming companies to experiment with business models that might prove sustainable. “The global streaming market is a two-horse race,” says Mulligan. He’s betting on Spotify and Apple.

The bottom line: SoundCloud hasn’t been able to transform 175 million users into profit, and its efforts to sell to Spotify have fallen apart.

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