The Spotify Era: How Spotify Makes Money, and Why It’s the Business Model of the Future

spotify playing on a phone

The past decade saw an unprecedented boom in the music industry thanks to the advent of streaming software and applications, and no other program encapsulates this growth better than Spotify. With over 250 million subscribers, it easily out paces its main competitors like Apple Music or Tidal. In fact, in the first half of 2016 alone, Spotify saw a 57% growth in subscribers, while other sources of music, like album sales and direct downloads, saw a sharp decline (17% and 14%, respectively), despite the fact that albums and downloads cost more than Spotify’s monthly subscriptions. So how does Spotify make money? The answer: a future-forward business model that put digital solutions first in its mission to deliver music to its customers.

At least, that’s what Spotify advocates believe. In fact, Spotify uses a very simple ‘freemium’ model that allows customers to enjoy their music without subscribing but entices them with paid-subscription perks. In this way, non-paying customers have the option of sticking with their free experience, albeit with advertisements (which is good for advertisers and Spotify alike), while paid subscribers can enjoy the same service ad-free (which is good for customers and Spotify). This ingenious business model allows Spotify to satisfy its customer base without alienating advertisers and providing advertisers with a platform to market their products without inundating their freemium customers.

By catering to the needs of both customer and advertiser, Spotify is able to provide its services for free at a relatively low cost. This meant that, while Spotify took a hit on profit (it didn’t turn a profit until 2019, a full 13 years after release), it inadvertently ushered in an unprecedented age of digital music and podcasts, something its profit-driven competitors could never do. Here’s a brief look at this decade’s most important app, what it is, how it works, and how Spotify makes money.

What is Spotify?

Launched in 2006, Spotify is a Swedish streaming app that offers freemium music, video, and podcast streaming services to its customers. For non-paying subscribers, Spotify offers a very generous basic service that includes streaming of copyrighted music. Meanwhile, paying customers get the same service, but with the added perks of improved streaming quality, listening to music offline, and ad-free streaming. It offers its subscriptions on a monthly or yearly package.

Spotify developed its app with most operating systems in mind. Just like most other SAAS out there, it stores its data on its proprietary servers. However, Spotify keeps its server load at a minimum so that customers can enjoy no-delay streaming. It does this by saving a temporary encrypted version of the file a customer is streaming in the system cache.

Spotify’s Business Model

man holding a smartphone with spotify app
Image by StockSnap from Pixabay

Spotify relies heavily on what is called a ‘freemium’ business model. Freemium is a portmanteau of the words ‘free’ and ‘premium’, which refers to the way companies provide a free service that can be upgraded into a premium experience. It’s one of the more popular business models of this decade, with other companies like YouTube or Netflix offering free, basic services, while their premium paid service is an upgrade from the free one.

For Spotify, their subscription packages come in three different tiers:

  • Free
  • Premium
  • Family

Spotify Free

The most basic subscription package that Spotify offers, the free version of Spotify allows users to access most, if not all, of their content, albeit with certain limitations. These limitations can include advertisements, no offline play, shuffle only access, and a bandwidth cap on streaming that doesn’t allow for high-definition playback.

Spotify Premium

Priced at $9.99 a month, Spotify Premium is the upgraded version of the free tier. It allows access to all the content of Spotify but without the limitations: this means that Premium users get to enjoy music without advertisements, the option to download songs for offline play, the ability to create and curate playlists, high-definition playback, and the ability to queue and play songs in any order.

Spotify Family

At $14.99, Spotify Family is intended for multiple users living in the same house or address. This subscription tier provides the same features as premium for up to 6 people. It’s a cost-effective way of accessing Spotify Premium for multiple individuals.

How Does Spotify Make Money?

spotify app
Image by Deepanker Verma from Pixabay

Spotify makes its money from two revenue streams: subscriptions and advertisements. As of 2019, Spotify makes 91% of its revenue from subscriptions, with the rest coming from advertisements.

Subscriptions Revenue

As of January 2019, Spotify reported having over 250 million paying subscribers, with average revenue per user (or ARPU) at $5.40. Spotify enjoys worldwide listener-ship, with 40% of customers hailing from Europe, 30% from North America, 20% from Latin America, and 10% from Asia. With its recent launch in the Middle East and North Africa, as well as improved Internet infrastructure in Southeast Asia, these numbers are expected grow.

Spotify continues to enjoy a wide fan base because of the amount of content it has: currently, Spotify boasts of over 15 billion hours of content from 300,000 artists per month, and that’s not including the more than 10,000 podcasters and the 185,000 podcasts that are now shifting to Spotify’s platform. Currently, Spotify’s ARPU counts only the revenue generated from music streaming, which means that the real-world figure is much higher if podcast streams were also factored in.

The company recognizes the growing importance of podcasts for its users, which is why it is investing heavily in acquiring more podcast content for its platform. In 2019, Spotify bought two podcast firms: Anchor and Gimlet Media. Anchor is an app that helps people create podcasts, while Gimlet Media is a podcast production company. Because of the sheer potential of podcasts, Spotify is aiming to make 20% of its library to be non-music content, consisting mostly of podcasts and videos.

This is in line with Spotify’s growth goals for the next decade, which entails using podcast content to drive up subscription numbers and top-of-funnel growth, which, in turn, will ideally grow revenue faster.

Advertisements Revenue

Premium subscribers to Spotify rarely, if at all, see any more advertisements, but that doesn’t mean that it’s still not a major source of revenue: in 2015, Spotify reported profits of over $200 million from advertisements in its free version tier.

Spotify does this through creative advertisements that aren’t just confined to banner ads or short audio snippets: instead, Spotify invests in cutting edge targeted ads to reach users in a more effective manner. The platform pulls this off with different kinds of advertisements, including, but not limited to:

  • Branded Moments: a type of first-to-market ad solution that allows brands to engage with their target audience in real-time.
  • Sponsored Session: this type of advertisement allows free users with uninterrupted, ad-free listening for a certain amount of time in exchange for a video view (available in select markets only).
  • Audio Ads: played every 15 minutes and consists of a short 30-second audio commercial.
  • Homepage Takeover: A combination background skin and optional interactive area that replaces the Spotify homepage for a short period of time.
  • Branded Playlists: A playlist consisting of branded cover art and text as well as a specifically curated list of songs.
  • Sponsored Playlist: A Spotify-owned-and-curated playlist that is made available to the public for a short period of time.

Each advert type is designed to target users at specific times of the day using a complex algorithm that collates different kinds of data points about its users.

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