Spotify is my favorite music service and I hope that they keep growing and doing well. However their business model automatically puts them in a risky position. As a matter of fact, details about Spotify’s music licensing deals have been leaked and it reveals why Spotify will never be profitable.
Spotify has to constantly adjust how much they pay to the music labels. The music labels are able to constantly change around their deal structure by making Spotify pay either an x amount of dollars per subscriber, per-play costs at a certain cost per play, or a certain amount of total company revenue. The labels could fluctuate between these sources of revenue based on where they would realistically make the most amount of money.
On top of that, the music labels receive partial ownership of the company. The music labels also require up front payments from Spotify. Every month, Spotify has to send the music labels reporting including monthly play counts of music.
The music labels also have a “most favored nation” clause that means if another label negotiates a service-friendly deal, they can insist on a similar deal.
Although the terms of service is not in Spotify’s favor, having access to this content is important for Spotify to work and get people to pay for their service. I’m hoping that Spotify executives will be able to get rich off their software eventually despite all these tough agreements Spotify needed to agree to. If Pandora can eventually have an IPO, Spotify should be able to pull it off too.