Spotify - behind the scenes of the music empire's IPO

April 2, 2018

Spotify, the music streaming service which emerged from Sweden almost a decade ago, will see its shares traded on the stock market for the first time this week. But what’s all the hype about and are there any guarantees this can be the next great internet success story?

Spotify’s unconventional route to market - does it guarantee a crazy first day of trade?

First up, Spotify bosses have decided to take an unconventional route when they bring their shares to the market. The usual approach is for a team of investment bankers to run an extensive ‘roadshow’ program with prospective investors across the board in a bid to ascertain what the market thinks the company is actually worth. Banks will then underwrite the offer for a fee, providing a starting point for the shares on day one of trade. Spotify has however decided for a whole host of reasons to simply make the existing privately held shares - those which have been dished out to employees, record labels and investors - available on the open market. The best bet as to what price the shares will be worth relates to the price shares have previously traded for privately. A regulatory filing by Spotify shows that in 2017, this price ranged from $37.50 to $132.50 a share.

The guide starting price that we usually have with a new share listing simply doesn’t exist, so whilst a degree of volatility is inevitable on day one - either as banks look to offload shares they have been obliged to buy as part of the underwriting process, or as those who missed out in the initial offer but still want a slice of the action pile in at any price - the first day of trade for Spotify has the potential to be in a different league altogether.

Spotify’s fortunes so far and what people say about the outlook.

Beyond the early volatility, what does the future hold for the company? If we work on the idea that the shares are actually worth $132 a pop, then the business as a whole will be valued at something like $23 billion, or £16.5 billion. That’s about the same as British Airways owner IAG and high street mainstay Marks and Spencer combined.

But for now, Spotify continues to be loss making. Their core operating model is relatively simple - buy the content in from record labels at one price then sell it on, along with peripherals like advertising, to consumers at another price. The company now has 160 million active users each month and in 2017 generated more than $5 billion in revenues from this audience, but still posted an operating loss of almost $500 million. If it can grow the audience whilst only paying fractionally more to the content providers, then the profits will come. A well-regarded US finance professor has projected that in 10 years-time, the company could be generating five times the amount of revenue and delivering an operating margin of 12% or more.

There is however some concern over just how optimistic these projections are. Spotify’s biggest competitor in the music streaming space is Apple, but the iPhone maker sees music as simply a bolt on that has the consequence of delivering brand loyalty. Apple Music accounts for just 1.2% of group revenues and there’s a concern that Apple could start to accept contracts with musicians and record labels that will keep their customers happy - but that simply don’t make commercial sense for Spotify to match.

Tech businesses can be hugely successful, but it’s no guarantee of fortunes.

The recent run of tech companies we’ve seen list shares have been something of a mixed bag in terms of performance.

• Twitter came to market in November 2013 at $26 a share, hit $40 on day one and now trades at $28.
• Snap IPO’d a year ago at $17, hit $27 on day one and now trades at less than $15.
• GoPro’s share price has fallen from $24 in 2014 to less than $5 today.

But it’s not always bad news - video streaming service Roku’s shares are up from the $14 they started at last September to $30 today - but they’ve been much higher too, and the overall market has been booming in recent months.

On day one, it seems inevitable that the Spotify share price will be extremely volatile. What happens next not only depends on the company negotiating well with suppliers and continuing to attract new customers, but also on how aggressively the competitors act.

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