Spotify has ambitions of becoming THE all-audio platform destination, with a self-proclaimed mantra of becoming “Netflix for Audio.” On February 6th, Spotify took a step towards that goal by acquiring two major podcast players: Gimlet Media and Anchor, reportedly valued at $200 million and $140 million respectively. By purchasing a content provider (Gimlet) and a distributor (Anchor), these two services have positive implications on all stakeholders within the audio value chain: customers will have access to rich new audio content and an improved podcast experience, podcast suppliers will receive deeper analytics and access to quality content creation and distribution services, advertisers will be able to effectively target users and reach them via new podcast ad products, and Spotify will create new revenue streams and drive down their costs to serve a user (creating healthier margins).
Customers: Audio Heaven
Gimlet Media and Anchor immediately improve Spotify’s access to a wide-ranging number of high-quality podcasts. Gimlet features narrative podcasts that help users understand the world around them, featuring premium podcast fiction (Homecoming) and nonfiction (Reply All) stories. In addition, their narrative and storytelling podcasts expand over a variety of subjects from tech, science, and crime to culture. Anchor will help drive the depth of podcasts by bringing over 15 billion hours of content. However, the real magic of the content offering lies in Spotify’s ability to increase the capabilities of podcast functionality. The current user challenges with podcasts are limited discovery, minimal socialization, and marginal personalization opportunities. Discovery is only limited to what a user actively searches for, socialization happens in group chats where we surface our favorite podcasts among friends, and personalization occurs when we proactively subscribe to a podcast. To improve discovery, Spotify will create podcast playlists based on popular subjects and across podcast titles. Just imagine a podcast category on “productivity” that features popular episodes from Tim Ferris, James Altucher and Tony Robbins. Spotify will strengthen the social network capabilities of podcasts by allowing users to gain visibility into what podcasts and playlists their friends and influencers have listened to, liked, and followed. With improved discovery and socialization of podcasts, this will inherently improve the personal recommendation engine. This creates a virtuous cycle that as Spotify collects more podcast data (social & behavior) and the more users listen to podcasts, the better a user’s personalized podcast playlist will be.
Podcasters: Reach & Understand Fans Deeply
Anchors’ mantra is to democratize podcast production and distribution. With many users having to make large upfront investments in podcast equipment and facing challenges in understanding audio software, paying for file services, and managing RSS feeds for each platform. In order to solve this, Anchor created full-suite technology that allows users to seamlessly create podcasts and distribute them across various platforms. With Anchor now under the umbrella of Spotify, it increases the attractiveness of Anchor services, because podcast creators now have an opportunity to get in front of 207 million monthly active users across all platforms and devices, versus Anchor’s 2M monthly active users who are coming mostly from mobile only. Also, with Spotify’s superior discovery capabilities, small niche players will have a better opportunity to be discovered via users following them on Spotify or being surfaced in discovery playlists (although with a cost).
Not only will Spotify improve visibility, but they will also be able to strengthen the quality of podcasts and improve analytics. Spotify has recently made investments in lossless CD audio quality, better known as Hi-Fi. Podcasters will be able to leverage this audio technology to create highly professional-sounding podcasts. Among the music platforms, Spotify has the most data on users, both behavioral and social data. Leveraging this data, Anchor will be able to substantially improve dashboard analytics for suppliers. Podcast creators will be able to get richer analytics on the demographics, social clusters, and behaviors of their users to better optimize their podcasts for specific audiences.
Advertisers: Ease of Use to Buy Audio Ads
According to IAB, in 2017 podcasts generated roughly $300 million in ad revenue against 124m annual podcast users, generating $2.40 in ad revenue per user. Per Deloitte Insights, the radio industry generated $12 billion in revenue, with an average annual revenue per user of $67. This demonstrates the opportunity to disrupt radio’s revenue, which Spotify is laser-focused on, and shows that podcasts are highly under-monetized. This is due to the fragmentation of the podcast industry and the lack of data on users makes it extremely challenging to make ad buys and understand the efficiency of the ad buy. Spotify is in a ripe position to solve both problems for advertisers. By marrying content with its superior data on users, advertisers will be able to seamlessly buy against specific audiences and gain insights into the efficiency of their ad buy. In addition, Spotify will create additional ad inventory for advertisers, such as sponsored playlists; for example, a personal finance podcast playlist sponsored by “Bank of America,” or a crime stories podcast “brought to you by ADT alarm services” (LOL).
Spotify can deepen its B2B services by leveraging Gimlet’s B2B podcast services. Gimlet currently offers podcast production services for advertisers. Gimlet has worked with Gatorade to produce a branded podcast titled, “The Secret to Victory,” in which athletes tell their stories on how they turned defeat into a source of motivation. This can be expanded to audio storytelling for advertisers’ products, analogous to what Amazon is doing by creating a live shopping channel (a digital “QVC” network). Spotify can capture this opportunity for audio by creating the “QVC” for audio. For smaller advertisers, who may not be able to afford premium content production services, they will be able to self-create branded podcasts via Anchor.
Spotify: Improved Margins & New Revenue
Spotify has created a scalable music platform, serving 96 million subscribers and 110 million free users across 78 markets and growing. However, they have struggled to profitably serve users. With high variable costs (revenue share with music labels), Spotify has yet to truly create platform economics, where the costs of adding an additional user is zero. As a result, Spotify is strategically looking for new products and services to provide platform economics: fixed goods where the marginal costs to serve a user decreases as the good scales and fragmented services have platform leverage.
Gimlet Media solves Spotify’s lack of premium podcast content by providing a fixed good (original content) that, if it scales, reduces the cost of serving additional users. Spotify is positioning themselves to create the same economic structure as Netflix. The social-media phenom movie “Bird Box” cost Netflix $20 million to produce but generated 80 million views. To recoup costs, Netflix just needed 2 million acquired and retained users to watch (production costs divide by price point $10), which means that the additional 78 million views were all profit. Spotify is in search of these types of profitable opportunities. Additionally, the original content also expands Spotify’s addressable market on two fronts: listeners and advertisers. For US listeners, according to Edison research, 72% of smartphone users listen to music, with another 11% listening to podcasts. This will grow the addressable market by 15% (and growing). With the additional variety of subjects and genres, Spotify will attract new categories of advertisers.
Furthermore, Gimlet will create a new revenue stream for Spotify: licensed content. Gimlet recently licensed video rights to its popular podcast, Homecoming, to Netflix, meaning that the podcast will be turned into an on-screen experience.
Among music platforms, there was very little differentiation in music content. This resulted in them competing on product capabilities: device integration (Apple), music social network (Spotify), personalized radio (Pandora), and audio quality (Tidal). Gimlet will allow Spotify to differentiate from its competitors with exclusive premium content, ultimately increasing the switching costs for users.
The short-term play with Anchor is to quickly increase the supply of podcasts; however, I believe the long-term play will be to turn these content creation and distribution services into a revenue stream. With the podcast industry being highly fragmented and not consolidated like music (6 major labels), Spotify will have negotiation leverage over podcasters because they have consolidated 207 million monthly users. Eventually, Spotify will create a subscription tier for content creation services based on deeper dashboard analytics, and/or charge podcasters for discovery in “niche or new podcasts” playlists, again creating an opportunity where the cost of serving the additional user is zero.
Summary
With successful integration and execution of Anchor and Gimlet Media, Spotify can create additional ad and subscription revenue, as well as new license revenue opportunities, while simultaneously lowering the costs to serve users (not sharing revenue with labels). Since going public in April 2018, Spotify has consistently reported operating margin losses. In their most recent quarter, they reported their first positive operating margin. By successfully acquiring services that provide platform economics, they surely will cement their future with higher positive operating margins.