Why Wall Street is flocking to Spotify
Spotify is a loss-making company that might not report a profit until next decade, but that didn’t stop investors from valuing the company at $30 billion when it debuted Tuesday on the United States stock market.
Spotify is an impressive company. Its loyal, paying customer base is enormous and is expected to keep growing. Also, Spotify has so far held its own in the face of competition from Apple, Amazon and Google, all of which want to win new subscribers to their music streaming services.
But there is an important reason that Wall Street is flocking to Spotify: It is doing a great job at getting record companies to roll over.
Spotify’s main cost is what it pays record companies for the music it streams to its customers. As Spotify has grown, that expense has fallen as a share of its total revenue, which shows that Spotify is negotiating increasingly advantageous deals with record companies.
That has bolstered Spotify’s gross profit margin, which measures how much money a company keeps after paying out the costs directly related to generating its revenue. Last year, that margin was 21 percent of revenue at Spotify, well up from 14 percent in 2016.
Crucially, though, Spotify has said it expects its gross margin to expand to as much as 35 percent over the longer term. In other words, as Spotify’s spending on music grows, so will its leverage over record companies. And it may well achieve its gross margin target. After all, Netflix, which occupies a similar position in the market for streaming video, has a gross margin of 35 percent.
But Spotify’s main rivals could complicate things. What if Amazon offered record companies better terms than Spotify? That would reduce Spotify’s bargaining power, making it harder to deliver wider gross margins investors are expecting. And Amazon, along with Apple and Google, has far deeper pockets to slog it out over the long term.
— Peter Eavis
How does Spotify’s first day stack up?
Spotify’s unusual path to the public markets was a success.
On its first day of trading on the New York Stock Exchange, the music streaming service finished with a valuation of $26.5 billion.
Spotify’s shares opened at $165.90 before closing at $149.01.
That’s well above the high of $132.50 that its shares changed hands at in private transactions this year. It’s also well above the $137.50 the WSJ reported its private shares were trading at during the past week.
Spotify had eschewed a typical initial public offering in favor of a direct listing. That meant there was no “deal price” for investors to reference on the first day of trading and no underwriters acting as stabilizing agents if the stock began to plunge.
Despite all that, Spotify’s valuation at the close on Tuesday ranks among the highest for a tech company debuting on an American exchange.
Here’s a look at the tech companies with the 10 biggest market capitalizations after their first day of trading, courtesy of Dealogic:
Alibaba — $233.9 billion
Facebook — $81.7 billion
Palm — $53.3 billion
Infineon Technologies — $47.9 billion
JD.com — $28.9 billion
Snap — $28.9 billion
Google — $27.2 billion
Spotify — $26.5 billion
Twitter — $24.9 billion
Agilent — $20.1 billion