At Spotify, “Our continued focus is on reaching more listeners, as ultimately this will translate into long-term value for our investors,” said CEO Daniel Ek on an October 2020 earnings call.
The company’s strategy has always been that growth comes before everything else — to the occasional frustration of creators, who are sometimes more interested in today’s royalty payouts than tomorrow’s valuation. On the same call, CFO Paul Vogel said, “For us, it has historically been about really thinking about growing users and subscribers first before worrying about the monetization part.”
Some rights holders don’t like that. They’re less focused on how many subscribers a music service has than on how much money it takes in from each. That number is the average revenue per user, or ARPU, and it’s closely watched because of its direct relationship to royalties, which many creators wish were higher. In 2020, Spotify’s global ARPU was $5.25 a month, of which it paid out about $3.90 a month to rights holders. That number is down 39.4% since 2015, when it was $8.66 due to a number of factors, including expansion in countries with lower prices, telecom bundling, student deals and family plans. When Spotify makes less per user, of course, so do creators.
What some creators see as bad news, however, might be good for Spotify — and, perhaps eventually, those creators as well. Spotify says the leading factor in ARPU erosion is its family plan, which allows up to six members of a household to use one account for $14.99 in the United States. (Amounts differ by country.) That makes average revenue decline because that payment is split among more users.
Spotify and other services see family plans and other discounts as a way to solve an even bigger problem: churn, or the percentage of subscribers who leave a service within a given period. What looks like smooth, steady subscriber growth is really an unruly process in which some customers leave for varying periods of time while more sign up or rejoin. (Spotify does not reveal its current churn rate, but Citi analyst Jason Bazinet estimates it was about 4% in 2020, down from 7.7% in 2015, according to one of the company’s financial filings.) And deals like the family plan give subscribers an incentive to stay.
The question that could set creators at odds with Spotify is whether the negative impact on ARPU is worth it. “The short answer is it’s a really good trade-off,” says Bazinet, because less churn can increase subscribers’ “lifetime value,” the expected future revenue from a subscription, because they’ll stay with the service longer. So even though Spotify’s ARPU declined nearly 40% between 2015 and 2020, the lifetime value of new subscribers to the service more than doubled from $16.78 to $36.85, according to Billboard calculations based on how Spotify values users, and total annual royalty payments — for both recorded music and compositions — grew from less than $2 billion to roughly $5 billion.
To complicate matters, these metrics are blunt measurements that leave Spotify’s performance open for interpretation. ARPU, while consistently declining over time, captures a melting pot of different prices from established markets with the highest prices to newer markets like Russia and India with lower prices. That means lifetime value, which is derived in part from ARPU, will vary from market to market, too. What’s more, the term lifetime value actually refers to the expected value of a single subscription, not a specific customer who could leave and return multiple times. The churn rate reflects dozens of markets with different factors at play; it has fallen globally, but it’s lower in established markets and higher in new markets. In spite of their shortcomings, however, these metrics are standard amongst subscription businesses — from Salesforce to wireless phones — and are useful in gauging a product’s performance over time.
That’s where the conflict arises. Higher ARPU means higher royalties, while Spotify’s priority involves more subscribers staying with the service longer. And while Ek talks about that goal, he has never said much to creators about lifetime value. Instead, Spotify tends to focus on more familiar metrics and talking points. This could be a missed opportunity because lifetime value of subscribers does shed light on royalty payouts. The longer subscribers stay on Spotify, the more royalties they generate. “Our model drives more fan engagement and generates revenue from more places,” said Spotify in a statement to Billboard. “That means larger total checks from Spotify to rights holders.”
Larger royalty checks may be coming for other reasons, too. Spotify’s ARPU could rise modestly in 2021, thanks to its intended introduction of a high-quality, lossless audio plan that will likely come at a higher subscription price, as well as price increases in 42 markets, including a $1 increase in the U.S. family plan and a similar rise in price for three discount plans in the United Kingdom. So far, says Spotify, these changes haven’t materially affected the company’s churn rate. Which is good news for both sides — at least for now.