The Product Strategy Fueling Spotify's Growth To 60 Million Users
Despite the controversy of newly crowned Billboard pop queen Taylor Swift pulling chart-topping album 1989 from the music streaming service, Spotify has recently announced hitting a new milestone of 15 million paying users and 60 million. While stars like Swift have the star power and fan base to pull music off the streaming service, Spotify is actually increasing the overall pie for the music industry, raising the amount of music spent per year by user to $120, which is more than the average people spent on music even at the industry’s peak. Spotify’s up and up trajectory boasts one of the highest free to paid conversion rates in the industry - at an investor-luring 25% - compared to other freemium services like Dropbox and Evernote, which have about a 1-5% range. (An analysis of marketing tactics that drove Spotify's successful launch in the U.S. from Moz here.)
So while Swift may be hauling in more revenue for herself with her strategic move to only offer 1989 for purchase on iTunes, the music industry still stands to benefit from value-creating freemium services, and supporting them through the growing pains allows companies like Spotify to achieve the size needed to develop a more mature business model. Currently, Spotify projects annual payments to be up to $13,547,486 by July 2015 for global stars. With its strong 25% conversion rate, Spotify is focused on increasing growth and revenue while minimizing losses, but faces serious competition from Apple, with its Beats streaming music service set to launch.
But why is Spotify growing at such a high rate? What are product features that may be contributing to its viral growth factor? The Internet uniquely provides the opportunity to accelerate growth through product features. To identify if a feature is likely to help drive a product's growth, how the product feature can contribute to growth should be taken into account: engagement the feature would offer, switching costs the feature generates and any partnership or network effects it creates. Strategically building in features that affect these areas can really impact growth.
The growth analysis conducted above showcases how specific product decisions have compounded high-impact effects across all four key areas: engagement, switching costs, partnership and network effects. Breaking down the specific metrics of each feature can help quantify what the impact is (here, without actual data from Spotify, I have simply categorized them as a yes/no and high/low/medium).
A Focus On Engagement & Retention: Making It Hard For People To Leave
The same product features that have enabled retention are also driving conversion: engagement and switching costs the bread and butter of many freemium services. Spotify has increased engagement and switching costs through the creation of several key features: personal playlists, saved songs, featured playlists, and personal radio stations. Making it seamless and easy to “save” music on the service, Spotify removed as much friction as possible for driving up switching costs for it users. If you’ve got 20 playlists and 1000 songs saved on Spotify, deleting your account and starting a new one becomes exponentially less desirable.
Social Pressures: Creating Network Effects
One of Spotify’s greatest competitive advantage was its early integration with Facebook. Not only did Spotify allow you to easily follow friends, it provides passive broadcasting to Facebook as people listen to different songs (sometimes - to the surprise and chagrin of the user who didn’t check their settings closely enough). Why is this important? Once Spotify launched collaborative playlists as well as general playlist and song sharing with Spotify connections, being connected to friends on Spotify dramatically boosted Spotify’s value to each user with each additional connection they made on the platform. Network effects can be very difficult to create, but because music is inherently a very social experience, especially in the U.S., users are naturally inclined to want to invite and share with their friends on Spotify. By making an early move to the U.S., Spotify has built in both strong switching costs and network effects to defend itself against other music streaming services, like Deezer.
Pricing Plays: Strategic Promotions
In a strategic pricing play adopted by many companies, Spotify launched a $4.99 pricing model for university students, half off normal subscriptions. Discount pricing for university students is driven by a few key interests: the value of the network effects this market creates for companies; youths’ willingness to try new things; and price discrimination tailored to a segment that is much more price sensitive. By tapping into the word of mouth and network effects of universities, Spotify was able to accelerate its growth through the dense networks that exist at schools.
Strategies For Spotify To Continue Driving Growth
While Spotify has made a significant amount of progress in gaining market share in the U.S. while boasting high free-to-paid conversion rates, in order to continue to compete with Apple’s new Daisy and Google Play, it needs to exponentially grow and lock in an ever larger user base.
Grow Market Share, Increase Free Users
Before Apple integrates Daisy into its iOS, Spotify needs to get more users by beginning to more aggressively promote activities that drive free conversions by analyzing, testing, and acting on data from user behaviors. For example, if Spotify user data suggests that when a Facebook friend sends a non-user a playlist, that non-user is 5x more likely to download Spotify, it needs to begin strategically encouraging that behavior and reducing the friction for that behavior, whether it is through e-mail marketing, new notifications, or better feature design - whichever method depends on what works best based on A/B testing and experimentation.
Invest In Deepening Partnerships
With Google and Apple carrying so much sway with music content providers and smartphone manufacturers, in order to compete Spotify must work on deepening relationships with partners rapidly to drive up switching costs and lock down contracts. It may be too late, since both big players have most likely begun talks behind the scenes and already have well-established relationships with the music industry. Spotify must then be able to create value for their partners in unique ways to maintain access to fan favorites by.
Accelerate Conversions Based On User Data
Spotify has one of the leading free-to-paid conversion rates but with incumbents moving quickly into its space, it must defend market share by locking in more paid customers, faster (which is basically every startup’s goal). However, Spotify has extremely valuable user behavioral data that can allow it to identify the “A-Ha” moments for users - or when they reach the tipping point for converting to the paid platform. Is it after making 2 playlists? Saving over 100 songs? Whatever the data shows, Spotify needs to conduct a cohort analysis to segment users by behavior and develop ways to incentivize actions that lead to conversions through more personalized e-mail marketing, notifications, or promotional programs. Maybe all it takes to convert a non-paying Spotify user is adding a feature where Spotify automatically creates playlists for users based on what they listen to, or a notification reminder that gets users to download playlists to their phone for offline listening. Find the “A-Ha” moments - or the behaviors that dramatically increase switching costs for users - and structure the Spotify experience around encouraging those activities.
Make Spotify Artist Analytics Actionable
With all of its listening data, Spotify took a smart first step by strategically opening up the information to artists with the Spotify Artists analytics platform. As competitive pressures build, Spotify needs to continue to show artists the value it can provide through its platform and begin introducing product features on the artist side to allow artists to begin making profit from the analytics. For example, Spotify artists should be able to offer special promotions to high-frequency listeners, giving them a notification when they are playing a show in their town (of course, this is opt-in from the users). Building out these features to show artists how Spotify can provide value in other ways besides traditional royalty payments focuses on how its digital strengths - valuable, profitable data that it can leverage for building stronger relationships and accelerating growth.
Innovating In Royalty Payments And Monetization (Interview with Professor Dae Bogan)
For the complicated issue of royalty payments, I interviewed friend and colleague, Dae Bogan, music tech startup advisor and Professor at Emerson College: "In my opinion, it’s more or less a PR stunt for a currently-relevant major recording artist to pull their music off of Spotify. Spotify seeks to encourage consumers to pay something rather than nothing for music in general (a shift from piracy back to spending). Although they have a free tier, unlike Beats Music and Rhapsody, their contention is that many free subscribers will convert to paid subscribers and the sheer volume of all U.S. Spotify customers yield a higher average value of listener per year than the greater U.S. music listener market ($41 U.S. Spotify vs. $25 U.S.). That being said, Spotify’s ability to increase royalty payouts is hindered by their business model: a business model that requires both compulsory licenses (for its Spotify Radio feature) and negotiated licenses (for its Spotify On-demand feature). Spotify’s total royalty payout canabalizes nearly 70% of it’s revenue, but only generates about $0.006 to $0.0084 per-stream to rights holders. Because their ad-supported free tier accounts for the bulk of their user base, one way to increase their royalty payouts is to increase their advertising revenue per stream, which would mean advertisers would need to pay more. Another way to increase royalty payouts is by converting free users to paid users because the 'per stream' royalty payout generated by Premium subscribers is higher."
"Lastly, Spotify believes that it would generate more revenue to the music industry if music listeners moved away from other music services to its service. In some ways they are right. When you consider the fact that Spotify pays royalties on more license types than non-interactive-only and on-demand-only services, such as Pandora and Rdio respectively, one could argue that Spotify would contribute to more income streams that benefits the artist. However, capturing music listeners requires a good mix of product features, marketing, brand, and user experience. In the user experience category, many music services are looking to better sound quality as a way to win the hearts of audiophiles. Music services Tidal and Deezer have already earned spots on the top rankings of the best services for high-fidelity audio formats. Tidal offers real CD quality audio with 44.1kHz/16 bit tracks streamed in either FLAC or ALAC compression formats. Deezer Elite offers the same through the Sonos audio playback system. Even Neil Young’s Pono Music is attempting to enter the ring to capture a small piece of the audiophile market. Spotify may look to better sound quality for their Premium users as a way to convert free users to paid customers."
These challenges present an opportunity for Spotify to continue to grow as larger competitors lag in launching their services. Competitors have an advantage due to scale that may help them negotiate music partnerships, pre-installs onto smartphones, and direct integrations into operating systems (ahem: Apple). But if Spotify can continue to optimize across these key product areas that drive growth to fuel network effects and maintain a unique value proposition for users and artists alike, it will be much harder and more painful for users to leave Spotify and improve its chances of remaining one of the top streaming music services in the market.