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Did you read the mission statement on Spotify's F1? No. So whereas last week Dropbox's mission is to unleash the world's creative energy, Spotify is to unlock the potential of human creativity. You definitely should get some tigs in on them. It's an unrestrained, hippie world out there. Welcome to season two, episode six of acquired the podcast about technology, acquisitions and IPOs. I'm Ben Gilbert. I'm David Rosenfall and we are your hosts. Today we are covering a company making history the week it makes history. Spotify and their direct listing, which is not an IPO. But if it were an IPO, this would be the largest IPO listing, whatever you want to call it, from Europe ever and the seventh biggest of all time, debuting at about roughly a $30 billion market cap. Almost a billion shares on the first day traded. Yeah, trading hands. Big company, big shake up in the industry over the last few years with the rise of streaming. And a big change to the way that the companies go public. So David, I'm excited to dig in and help understand myself exactly why they did a direct listing. What a direct listing is and it probably more importantly excited to hear from you more about the history of the company itself. Oh, there's always a story, Ben. All right. If you are new to the show, you should join us in our Slack at acquired.fm. There's over 1200 people talking about acquisitions, IPOs, tech news as it comes. And helping us do research for the show. And thanks to listeners who are throwing in some interesting stuff about Spotify as David and I were researching. Our presenting sponsor for this episode is not a sponsor, but another podcast that we love and want to recommend called the founders podcast. We have seen dozens of tweets that say something like my favorite podcast is acquired and founder. So we knew there's a natural fit. We know the host of founders. Well, David, Senra, hi, David. Hey, Ben. Hey, David. Thank you for joining us. Thank you for having me. I like how the group is together and then they say it's like the best curriculum for founders and executives. It really is. We use your show for research a lot. I listened to your episode of the story of Akio Maria before we did our Sony episodes this incredible primer. You know, he's actually a good example of why people listen to founders until acquired. Because all of history's greatest entrepreneurs and investors, they had deep historical knowledge about the work that came before them. So like the founder of Sony, who did he influence? Steve Jobs talked about him over and over again if you do the research to him. But I think this is one of the reasons why people love both of our shows and there's such good compliments is unacquired. We focus on company histories. You tell the histories of the individual people. You're the people version of acquired and where the company version of founders. Listeners, the other fun thing to note is David will hit a topic from a bunch of different angles. So I just listened to an episode on Edwin Land from a biography that David did. David, it was the third, fourth time you've done Polaride. I've read five biographies of Edwin Land and I think I've made eight episodes of them. Because in my opinion, the greatest entrepreneur to ever do it, my favorite entrepreneur personally is Steve Jobs. And if you go back and listen to like a 20 year old Steve Jobs, he's talking about Edwin Land's My Hero. So the reason I did that is because I want to find out like I have my heroes. Who were their heroes? And the beauty of this is the people may die, but the idea is never too. And so Edwin Land had passed away way before the apex of Apple. But Steve was still able to use those ideas and now he's gone and we can use those ideas. And so I think what requires doing what a founder trying to do as well is find the best ideas in history and push them down to generations. Make sure they're not lost history. I love that. Well listeners, go check out the founders podcast after this episode. You can search for it in any podcast player. Lots of companies that David covers that we have yet to dive into here on acquired. So for more indulgence on companies and founders, go check it out. Well David, before we dig in, I spent a bunch of time, I think, as the news started to trickle out that Spotify was doing a direct listing, not an IPO. You know, several months ago before they price, before they had a date, before they had an F1, not an S1 to announce foreign company issue. Oh, oh, I didn't realize that the F1 is because they were not a US based company. Not because of the direct listing, but because they are a foreign issuer. Yep. Ah, that makes sense. Before we dig in, some things that you need to know about what is a direct listing or a direct public offering, which is not an initial public offering. The biggest difference is the company doesn't take any dilution. So if you're thinking about, you know, what does a company normally do in the IPO? They, there's two big reasons. One, they create liquidity for existing shareholders. So everybody who's got stock, sometime after that has the opportunity to sell that stock and get some liquidity on that. The other is that the company actually creates new shares. So all the previous shares get diluted, but the company gets to raise money. So they sell the new shares that they've created. They raise millions and millions of dollars to have money in their coffers. With a DPO, a company doesn't take any dilution and they don't raise any money. So Spotify doesn't have a dollar more in the bank account yesterday from selling shares that they do today. I guess. Don't that. Don't create any new shares. It's literally just, hey, anybody who is a current shareholder can now sell. There's no lock up. It's just, it's theoretically less expensive of a process because you don't have to go do the whole road show and hire bankers and all that, which we will get into also. But one thing that was interesting that I was sort of thinking through is one disadvantage is that if you are a buyer of this stock, you have to consider the fact that an insider, somebody who previously had information rights to the company or might be an employee of the company is selling. So you actually have a counterparty who's probably more informed than you on every single transaction of shares in these early days of trading. Yep, very true. On the other hand, you know, Spotify is a 12-year-old company. Certainly the founders and employees, early investors, they want liquidity. And also, you know, we'll also talk about this, but there's been a robust private market for Spotify shares for many years. So trading has been happening. There has. Well, before we go into the history in fact, I found one fun bit of trivia. David, there's a very famous company that did a DPO in the 80s that sort of popularized this. Do you know who it is? I do not know. So in 1984, Ben Cohen and Jerry Greenfield needed funds for their ice cream business. They advertised ownership stakes through local newspapers for $10.50 per share with a minimum number of 12 shares per investor. And their Vermont loyal fan-based ended up funding Ben and Jerry's ice cream in a DPO for its first way to raise capital, raising only $750,000 from 1800 ice cream loving vermonters. Oh my goodness. Talk about an addictive product. I know. Addictive and viral as we will get into. That's right. And interesting to know, we'll come back to this later. They then did a $5.8 million IPO the following year. So they actually did issue new shares once they were their public. So, um, took that one away and uh, let's dig in. All right. Well, history and facts. So as probably a lot of people know, Spotify is a Swedish company who are founded in Sweden. Not Switzerland as the New York Stock Exchange learned this week, unfortunately. Sweden is a different country. For those who didn't see the news, uh, there's a chance that a Swiss flag got raised at the New York Stock Exchange. Yeah. Somebody, um, somebody was in hot water. Uh, we'll come back to that at the end of the show. Uh, but it was started in Sweden by uh, two co-founders Daniel Eck and Martin Lawrenceson, uh, started in 2006. Uh, Daniel Eck, the CEO, who's still the CEO was kind of like a wonder kind of the Swedish tech scene. He started his first company when he was in school at age 13, hired all his classmates, a lot of fun history, which we'll get into. Um, but to really understand Spotify, you have to go even farther back, uh, and start with another company that we've also discussed on this show a little bit. Uh, interesting footnote of history, uh, called Napster. And yeah, who, I mean, uh, who would have thought that, uh, the very thing that, you know, that destroyed the music industry and, uh, brought the, the record labels to their knees could possibly have a hand in saving them. Well, uh, unfortunately it was the record labels that brought Napster to its knees. Uh, but as we shall see, there is a very direct and straight line from Napster to Spotify to today. So Napster, uh, founded in 1999 by the Sean's Sean Fanning and Sean Parker. Uh, Sean Parker is as Ian, Sean Fanning is as H-A-W-N. And then also a third co-founder, who doesn't get talked about as much, but his friend of the show Jordan Ritter, uh, who's based in Seattle now. Um, and there's a really, really good internet history podcast episode with Jordan about the founding and early days of Napster all the way through the lawsuits with the record labels and shutting down and the aftermath, uh, highly recommend that, uh, if you want more detailed in the couple minutes, we're going to spend here on Napster. Um, go listen to that episode on over on IHP. Um, so Sean Fanning, uh, started Napster originally. He was a college student at, uh, Northeastern University in Boston. Um, and he and his friends, uh, he was really into hacking computers. This was like the late 90s kind of ended 98, beating in 99. Um, really into hacking, he was really active on IRC and in a bunch of communities and forums, um, sort of trading programs on the internet and, um, and especially on broadband. So these were the days most people at home had dial up, uh, but colleges all had broadband. And so, you know, having, I was, I was sort of on the tail end of this, but, you know, I remember, you know, the biggest, uh, attraction to going to college, you know, there was the education and all that, but there was getting broadband internet and then stealing files on the, uh, on the internet. Yeah. I remember evaluating colleges based on that. Like they thought it was the most ridiculous thing, but, you know, nerdy kid going into computer science. Uh, I remember asking like on tour guides like, what's the bandwidth in the dorms? And it was the whole, um, remember the internet too that was like a separate backbone that only college universities had that was like a faster private internet linking universities. Anyway, huh, this all plays into an appster. So Sean is, he's on active in all these online forums. Uh, he's trading files, but the including MP3s, which people are ripping from CDs, you know, this is big. This is the iMac, you know, and all this is happening. Rip Mix Burn. Rip Mix Up Wait. I mean, don't rip because that would be illegal. Uh, yeah, don't burn. Use iTunes. Buy your music. Um, so he realizes there's no good, like, front end to this stuff. So he's like, okay, I'm well, I'm, you know, I'm a CS major. I'm going to, I'm going to start coding up a front end client, um, for trading files, peer to peer on the internet. He decides to call it Napster. Um, he releases the first version of it and it basically just takes off like wildfire. Uh, first at Northeastern, uh, you know, a college in Boston. This will, we will revisit social apps, uh, on the internet, starting at colleges in Boston and taking off like wildfire, uh, spread. So lots of other colleges all around the country. Um, he brings on two folks. One is Jordan Ritter, who's also based in Boston. Uh, he takes over back end programing. Um, and another friend that he has from, uh, from the IRC internet relay chat community, a guy named Sean Parker and Sean joins and he's basically kind of the business head of Napster. Um, and, and Parker was, you know, he's kind of like a hacker hustler guy. He had a whole bunch of internet businesses that he started in high school. He decided not to go to college. Um, apparently he was making like 80k a year while he was in high school just from internet businesses. Um, so they, uh, the three of them get going. They raise $50,000 from fannings uncle and they move out to Silicon Valley. Uh, and kind of the rest is history again. You can listen to the IHP podcast, but basically within a span of two years from 99 to 2001, Napster goes from being like the killer app for broadband. I mean, this was the reason I pressured my parents to get broadband at my house when I was growing up. So I could use Napster, uh, or use it better than, than dial up. Um, you know, they get sued by all the music labels, uh, and the company shuts down and kind of flames out in a blaze of glory, uh, all within about two year period. So two dozen, well, the ashes of Napster kind of live on. It gets resurrected as well. No, but I mean, I'm, I'm thinking about the time of my life where I was actually using like Napster Napster and I had a, a zip disc that I would store my music on when I would download it. And I would like, you know, those are only 100 megs. I'd like delete the old music that I didn't want anymore so I could get the new songs off Napster. But the, um, I can't believe that was only a two year period. I know. It was crazy. Well, because the, the labels sued Napster. Um, they couldn't work out settlements. They sued, they sued Napster. They sued all of the individuals who were working at Napster, all the founders, all the investors, the LPs of all the venture funds, like they just went nuts. Oh my god. Um, and so quickly, and what happens, you know, I remember this, I'm sure you do too, is Napster gets shut down, but then, you know, a million flowers bloom in its place. Lime iron, because, uh, all this stuff, uh, because that leads to Skype, um, which also will influence Spotify, uh, which will come back to anyway, Sean Parker though, he exits Napster after all this is happened in 2001, but he doesn't, you know, he does, he's not one to rest on his laurels. Uh, he found a company called Plaxo, which we've also discussed on this show out in Silicon Valley. They're all out, uh, in California now. 2002 starts Plaxo, uh, gets backed by Sequoia raises money from Sequoia. I believe Mike Moritz is on the board. And, uh, uh, but Sean's still a kid, um, and he's running this now, sort of enterprise email, um, you know, identity company. Um, he ends up getting pushed out after the downturn in 2004, Sequoia and the other board members push him out of the company, leads to a whole lot of animosity, ultimately leads to the infamous Facebook pajama pitch to Sequoia, uh, that is covered in the social network, um, which we'll get to too. Uh, so Parker's done with, and real briefly for anyone who doesn't, uh, um, who doesn't have the time to go check that out, basically, uh, Sean Parker swore that when he was getting involved with Facebook, they would never go and, and give Sequoia a piece of this. And finally, uh, Mark Zuckerberg, um, is, is persuaded to go and pitch Sequoia and shows up in his pajamas as a show of true respect. Yes, two, two respect. Now infamous in Silicon Valley, lure. Um, so Parker's pushed out of Plaxo, uh, doesn't sit still for long again. He supposedly his roommate at the time is dating a girl who's a student at Stanford, an undergrad at Stanford. And Parker sees on her computer one day, a site called the Facebook dot com, uh, and this gets dramatized in, in the movie, the social network where, where Parker is played by Justin Timberlake of all people and, uh, and it's so good. A girl, he's, he's, he has a trist with a, with a girl on the Stanford campus and then sees it, on her computer the next morning. Uh, supposedly it was actually his roommate's girlfriend. But anyway, next thing, you know, um, Parker basically hustles his way into meeting with Mark Zuckerberg, and then Facebook co-founder Eduardo Saverin, uh, because Facebook is still back on the Harvard campus in Boston. Uh, he goes to New York, he arranged his meeting with, uh, with the two of them. This is all documented in the social network, the company's a few months old. Uh, and he basically talks his way into joining the company as its president. Um, and Parker has also become close with Peter Teal at this point. Uh, Founders Fund doesn't exist yet, but PayPal has already, uh, exited eBay and Peter is now investing in the PayPal mafia and other folks. Uh, and Peter ends up leading the first true investment in Facebook by his 10% of Facebook for $500,000, um, a, quite press and move. Um, and then the, we all know what happens after that. Uh, but I think, yeah, I think Facebook, I think it worked. Uh, that'll be a story actually that we have already told you can go listen to our episode on the Facebook IPO. Uh, but I think everyone knows what happened. But for Parker though, in the next year in 2005, um, you know, remember, he's still super young. He's got to be like, I don't know, 24, 25 at this point. Um, he has a party at his vacation home in California. Ends up getting busted by the police. They find a bunch of drugs at the party. And as a result, he gets ousted from his role as president of Facebook. Again, all this is in the movie in the social network. Um, so that was to Parker. Sean Parker was born in 79. So that would mean all this is going down in what 2005. So he's probably 26. Yeah. Yeah. Seven somewhere somewhere between 25 and 27. Um, so he's like the adult supervision at Facebook. Uh, uh, it's kind of a miracle that Facebook survived all of this because we'll get into some more stuff here. Um, so, you know, Parker again doesn't sit still for very long. He joins up with Peter Teal, um, who had just at this point started Founders Fund, the VC firm that, um, Peter started, uh, and, uh, after the Facebook investment, um, Parker joins in 2006, but he still has music and Napster kind of on his mind. And if you remember, um, Facebook in the original early days, Facebook was actually the Trojan horse to realize what supposedly was Mark Zuckerberg's true vision. Wirehog, which was wirehog. Yeah. That's right. They were co-developing. It's I think when they were, when they were working on, they were even doing this in California. I think after they had moved out, they were working on both Facebook, the social network and wirehog, the music sharing network, and we're going to deploy wirehog to everyone who had, uh, had signed up for Facebook to be sort of the, the, exactly, David, the Trojan horse, the way that you, uh, you bring Peter Peter the masses. Yep. Exactly. And remember, Facebook was only a college's at this point in time. It wasn't open to the whole public. And, um, and so Wirehog was essentially Napster, uh, 2.0. It was file sharing, but mostly primarily music, uh, and then, and then video file sharing had become big at this point, uh, BitTorrent and other, um, applications were, were, were very popular. Um, and so actually that pitch to Sequoia, the infamous pajama pitch, uh, that Mark Zuckerberg and Facebook did, supposedly they primarily pitched Wirehog, not Facebook. Wow. But, uh, but Parker, you know, he's, he's lived through all of this. He's been sued by the music industry by all the labels had Napster killed. He kind of says, like, look guys, like, now is not the time. Uh, someday Wirehog Napster, it'll all come back. But, you know, the, the industry has not changed enough. We're going to get sued. The Facebook is working. Let's do that. Let's kill Wirehog. So supposedly Parker was the one responsible for either before after he left. He stays really involved in the company, even after he stopped being president. He's the one who kills Wirehog within Facebook. All right. So chapter one, Sean Parker starts Napster and that gets brutally murdered by the music industry. Chapter two, Facebook in its own success becomes the dominant thing and there's, there's no reason to focus on Wirehog there. Yep. Wither chapter three. So for chapter three, we come back to Sweden now and to Danielek, the CEO of Spotify. So Daniel, as we said, he started his first company in 1996 at the age of 13. He was in school. It was a website, web developer for clients, sort of like Tony Shay and the Zappos guys when they moved out to California. Yeah. Yeah. Man, that was that was the thing to do in high school. Like that was, you could make way more money than anybody else because it was this highly valued skill. It was the work didn't have to be good. Like there was no good, I mean, there's no like modern frameworks for doing any web development then. So you just throw something together and adults are amazed that their businesses on the internet. There's no square space at this point in time. No. So after a couple years, Daniel's making like $50,000 a month and has 25 employees. He's still a early teenager. He ends up, he does go to college briefly. He goes to the KTH Royal Institute of Technology, which is the top engineering school in Sweden. But he drops out. He wants to focus on startups. He joins one startup called Tridera and ends up getting acquired by eBay. Then he becomes the CTO of a virtual world game called Star Doll. Remember when virtual worlds were a big thing. Yeah. I don't know about you, but I still spend most of my time in Second Life, David. Yeah. You might be just about the only person left who does that. Then after that, he starts an online ad company called Ed Vertigo. He gets acquired by a company called Trade Doubler, which is also a Swedish company that is sort of like the PayPal Mafia, or I would, we at Wave would say the Airbnb Mafia of Sweden. Then after that, finally, Trade Doubler will come back in a second. But after that, finally, Daniel becomes the CEO of a company called UTORANT. UTORANT is a BitTorrent client. BitTorrent is basically a peer-to-peer file sharing protocol that is the spiritual successor to to Napster, to Kazah, to Limewire, to sort of the first generation of file sharing companies. BitTorrent is, I don't know, fully the technical details, but essentially it shards files. It makes it a lot easier to transfer very large files between users. People are using it for music, but now people are also using it for video movies, television shows, and the like. Yeah, it has the major benefit of you being able to concurrently download multiple pieces of a file from different sources. So rather than David Meade taking up the hogging the entire way to download that one file that you have, I can split it into 100 pieces and grab 100 pieces concurrently from different people. So the more people that are hosting the file, the more people that can share to the network. The faster it all moves. And so this is UTORANT's based in Sweden. Later that year, this is 2006, after Daniel becomes the CEO, it ends up getting acquired by BitTorrent. And this is like piracy, which started with Napster, has now reached like a fever pitch. There's actually, I had forgotten about this. There's a political party in Sweden that is formed, a legitimate political party called the pirate party. And their platform is like eliminating intellectual property rights from the law, period globally. And like there are a lot of people that support this. Apparently in the national elections at the time, they get about 7% of all votes in the country. It's crazy. And so like everybody, this is the music industry has been decimated at this point. People are worried that Netflix has transitioned into, is starting the transition into video streaming. People are worried BitTorrent's out there. People are pirating movies. What's next? Basically, there's no hope in sight for intellectual property on the internet. So has Apple ridden in on their white night horse yet? Yeah, totally. 99 cent downloads. 99 cent downloads. So iTunes, you know, it's hailed as the saver of the music industry. But easy beats free, the classic Steve Jobsism. Yep. But iTunes is still, and until the beats acquisition, which we covered, it's still in the purchasing music paradigm, where you're paying money per file. And then you can play that file anywhere, but it's only one song or one album. It's not like the best experience. And this is where Daniel actually can't play it anywhere. It's like, I mean, until they switched to the DRM free for the dollar 29 instead of the 99 cent stuff, it was still restricted to five devices that had to be authorized in kind of a clued-view way. You literally had to transfer the MP3 around because the cloud hadn't really blossomed yet and certainly not streaming. So, you know, they're, if you think about sort of step functions to the user experience, I'd say, you know, that iTunes was like 20% better because I didn't have to go into shady parts of the internet to try and find this music that fell off the back of a truck. It was like, right in my music player, which is great. And you knew it was the right song, you know, the true right. Right. All the crappy files you'd get from Napster and, you know, because it's like, it's like somebody like playing, like playing something out of their computer speakers and then re-recording it onto a separate thing. So you know, there's weird like hiss in the background. It was great. Well, the well-wrested totally. But it really wasn't, you know, it wasn't a whole step function better. It was, you know, easy, sure, it beat free, but it wasn't a paradigm shift. It was still like the same way that I'm all the same downsides of transferring an MP3 around, but with the new downsides where it also costs money. Remember organizing your iTunes file library? I want my life back. I want all those hours back. I meticulously cared about this. I like, I for a while tried to get some of those software, some of the programs, I think something about a brain, like brain, sound brains or something that would go through and like help you by recognizing the audio signature and filling it in. But even that was wrong. And I'm like so obnoxious and meticulous about keeping that stuff accurate that like I have I've spent weeks like cumulative weeks of my life. I think this was probably like the biggest wound inflicted on our generation was that like, you know, all this product potentially productive time that we could have been spending playing video games, you know, which we were doing the rest of the time. We were organizing our iTunes file libraries. Well, and I thought I was going to have that with me for life. Like, I remember, you know, you look at your dad's record collection or, you know, my, my parents also had this like rich CD collection. And I'm like, this is the way, like, this is my music collection that I'm going to carry with me forever. And I remember, I mean, we're jumping a little bit ahead, but I remember this moment a few years ago where like, I got a new computer and I didn't transfer my iTunes library over. I just like have it on an external hardware store around my house. And it was like this painful and credible illustration of sunk cost fallacy where I just, I like, I'm like mourning the fact that there's these hundreds and hundreds of gigabytes that I'm just not, not bringing with me into the next chapter of my life. And, and, and did anything bad happen from it? Like, no, I have access to basically, I think all of that music, except for sort of some, you know, live stuff here and there and some covers and all that. But like, you know, I hadn't, I hadn't opened iTunes and listened to any of that in years. Yep. Yep. So this is really the insight that Daniel has, which is, which is too prompt. It's that the user experience for music is not just that the industry is broken, but the user experience is broken. And iTunes is not great for all the reasons we talked about. But piracy isn't great either. You know, BitTorrent and all the spiritual successors of, of Napster, you still have the same problem. You got to manage the files. You don't know what you're getting. It's really, it feels like, you know, all of this feels like technology that's not like product-ized. And so he has the vision that there's a better way. There's actually a better way to consume music that is better than pirating, better than iTunes. And that is what becomes Spotify. So he decides, you know, yeah, the music industry is hard, but I'm just going to go for it. He teams up with Martin Lawrence and his co-founder, who was one of the trade-double-er co-founders. Remember, trade-double-er had acquired, had acquired Daniel's last company before he joined UTorrent. They fund the company themselves. They figure they can raise venture capital. And, you know, they'll do some deals with record labels, get launched. They have this new, you know, new paradigm for consuming music. Of course, everybody's going to see how much better it is. And it turns out it's quite a slog to get the record labels on board. So this was shocking. Yeah, shocking. So this was 2006 when they started the company. Apparently, the name Spotify comes from there in Daniel's apartment, their brainstorming names for the company. They're sitting in different rooms and they're shouting back and forth. And with suggestions, Martin shouts something. And Daniel mishires it as Spotify. And immediately Googles it, realizes that the domain name is available and thus Spotify. I love these stories. I know. Like of how these things kind of be. They later try and justify it as like, well, it's a mashup of spot and identify. But no, that's not what happened. It's like, it's like Pyramiddiar when asked in all hands, meeting after the EBA IPO, what does EBA stand for? He was like, well, I was kind of, I've been trying to tell people that it's like electronic Bay. But I just thought eBay sounded cool. Totally. So they build the product. They're working with the labels. But it takes, as I said, forever to get any deals done. And the labels in particular don't want to go anywhere near, giving the rights to streaming to the US. So it's actually really fortunate that the company starts in Sweden because eventually after basically two years, they're able to convince the record labels to let them experiment with this new paradigm of streaming. Remember Netflix is already around at this point, like the model is proven. But only in Sweden. They won't let them do it in any other companies. So finally, finally in October 2008, so almost two years after they start the company, they launch in Sweden with free accounts available by invitation to everyone. So they use the invitation, you know, growth hacking method for free accounts. But if you want to pay to subscribe, anybody can come in and pay to subscribe. So it's like, you got to be part of the club to get in for free, but you can bypass the line if you pay 10 euros a month to subscribe. That's a great, that's so interesting because it does, I mean, it hits that critical mass where if you're using a viral invite system like that, it's not hard to find someone with 50 invites to Gmail anymore. But at the beginning, it's so coveted if you care about being on it and that social, I mean, that's it's so clearly not going to be a long-term revenue strategy, but it's like, hey, if people pay for this now, we may as well do it. Great way to start. Great way to start. Shortly thereafter in February 2009, they launched in the UK and then they slowly kind of roll out in Europe after that. But it's really working. As a personal aside here, I did a summer internship with exact targets UK subsidiary in summer of 2009. And I remember reading all this articles in TechCrunch, I know, wait, no nine about Spotify and what a disruptive innovative thing this was, and sitting in my dorm room in Ohio State being like, I have, I feel so disconnected. Like, I'm here manually curating my iTunes library and like, I keep hearing about this streaming music thing. And it was like the most awesome experience to go and do that internship in London and get to use Spotify. But then when I came back in September of 2009 to get plunged into the dark ages back into the US again, it was this really weird experience. Yeah, totally. Well, so summer 2009, this is when Sean Parker comes back into the story. Rises from the dead yet again, erides back in from the sunset on his horse. So Spotify is going across Europe. Their labels are slowly letting them go into more and more countries. And towards the end of the summer, they end up raising $50 million in what was their series B at that point from Wellington Partners, the hedge fund and Lee Caching the wealthy Hong Kong based, the Hong Kong Taiwan, I believe Hong Kong based billionaire. But Sean Parker, so at some point, at some point, Daniel comes to Silicon Valley, comes to the US and he meets with Mark Zuckerberg and Facebook and apparently Sean Parker's there too. And he's like, this is it. This is Napster 2.0. This is the way to do it. And, but they just closed this round, this $50 million round. Sean at this time had joined up with Peter Tiel as a as a partner at Founders Fund. And so Sean writes Daniel this email. And we'll link to it. I believe he hadn't met him because in this email, he says, I look forward to meeting you in person. I really liked this, but I look forward to meeting you. I see all these anyway. So maybe it was that Daniel met with Zuck and Zuck told Sean Parker about it or whatever. Sean Parker went crazy. It's so important. It goes crazy. He fell in love with this thing. Totally falls in love with it. And so he writes this email, which is online on the internet, published for posterity. We'll link to it. It's amazing. And so I'm just going to I'm just going to quote liberally from this email here. It starts off with, you know, I've been playing around with Spotify. You've built an amazing experience. As you saw, Zuck really likes it too. I've been trying to get him to understand your model for a while now. But I think he just needed to see it for himself. Facebook has been in partnership discussions with various companies to fully integrate music download with the Facebook profile. Most of these deals would have resulted in the wrong user experience. And I've done my best to stop them where they didn't make sense. Remember, Parker has no formal involvement with Facebook at this point in time. In particular, there's no way that iTunes could enable the right experience on Facebook. And he continues, he says, ever since Napster, I've dreamt of building a product similar to Spotify. What's clear? Oh, go for it. What's clear is that the labels never quite understood the way people really consume share, consume share and experience digital music. And they couldn't admit to themselves that this behavior pattern wasn't changing anytime soon. Rather, they'd have to change their the way they did business, essentially to make it work. And these are so clearly two kindred spirits, like the way that Sean Parker thinks about music and the way that Daniel, like, thinks about music. Like it is, you are, when you read this thing, you're sort of reading the future product roadmap for Spotify as laid out by Sean Parker, which I'm sure Spotify had already thought through. And if you find the content of this episode interesting, you'll just, like, love every word of reading this. So go check it out in the show notes. Well, this is what's interesting. So I don't know. It's probably impossible to know where their Spotify had already had on their roadmap, all the things that I'm about to say that Parker lays out. But essentially, this is, you know, the first key to Spotify was what we talked about earlier, which is really getting the product experience right. Like it's a better product experience than either iTunes or piracy, because you don't have to worry about organizing in files and all this just right there at your fingertips, you know, wherever you are on any device. That's great. But that's only the first thing. The second key to Spotify is Facebook and distribution. So yeah. So Sean, Sean and his email to Daniel says, my goal for the second generation Napster, once we'd gotten around to cleaning up the messy interface, which he actually rails on as an aside, he rails on Napster's interface for most of this, this letter. He so clearly holds himself as like a product designer and is just massively ashamed that they weren't able to sort of clean it up. Anyway, which is funny because he was basically, I mean, he was technical, but he was basically the business dude at Napster. He was not the product designer. Yeah. So my goal for the second generation Napster was to implement social and sharing features. This would have dramatically increased the volume of sharing happening through the system. Based on the comment you made to suck, I suspect you're moving in this direction. You should build this capability directly into the client using Facebook to connect to authenticate and then leveraging the viral communication channels to spread Spotify rapidly around the world. Then he says, you guys are likely going to be the first major success story with Facebook connect, which Facebook had just launched to it, which was their login platform. Then he says, if you need some on its own has been, has been quite the topic of discussion. Well, Cambridge Analytica and all that. Then he says, if you need some help navigating Facebook platform, in particular, the viral channels, I'm happy to lend a hand. And this is really how Spotify becomes a $30 billion company. So also, this email is a masterpiece of, if you're a VC and you're trying to get yourself into a deal, an investment or when a deal, this is how you do it. Take notes. Because shortly thereafter, Founder's Fund comes in and John adds another 15 million to the round that was already closed. Daniel says, of course, I need to have you involved and then Founder's Fund and John end up investing. But this is it. So at this point in time, this is the end of 2009. The company Spotify believes there are about six weeks away from being able to launch in the US. They've been working on deals with the record labels forever. John knows dealing with the record labels takes longer than you think. He thinks it's about 12 weeks away. In the next quarter, they'll get out in the US. Turns out to take another two years until they're finally able to launch in the US. It's not until 2011. But that also is very fortuitous for the company because they basically take those two years and they do two things. They foster their relationship with Facebook through Brokard through Sean Parker. They essentially rearchitect the entire product to rely on Facebook connect and social log and then distribute every action that every user takes. We'll get into this within Spotify gets distributed out to their Facebook account to the newsfeed. This is really which right Spotify is viral growth. This is you know, it's the Farmville for Music. You really are just seeing every update that every one of your friends takes in Spotify in your newsfeed. Ben listen to wake me up before you go. I mean, I seriously, I remember turning publishing on and off specifically when I was listening to certain songs. I hope this doesn't go out on my Facebook. And I was one of those people, David, did you ever use audio scrubber or last which last or move with the emerge with last FM? I was like, I had that hooked into iTunes. So I was always scrambling to my last.fm account. And then when I realized so that I enabled the switch for that to get published to Facebook. But like no one else, like it was very much a homebrew computer club type thing to be sharing all your music data on Facebook before Spotify. And then I remember when Spotify lit up in the US, it was like, holy god, every single person's listening, you know, habits are showing up here in real time. You know, it's either like you farm a root vegetable or you listen to, you know, I don't know what was popular music at this point in time. So hard to remember. Justin Timberlake. Here's the thing that's actually not hard to remember. Is I'm pretty sure I heard a great quote once that was your music taste for the rest of your life is whatever you're listening to senior year of college. So I would bet if we go look at what you and I actually listen, like I was listening to a ton of radio ahead and what I listened to today. A lot of radio ahead. I think it's so it works. Colleges. That's why it's important. It sets your habits for life. So 2011 basically Spotify's now had time to build this relationship with Facebook. And in July of 2011, they launched in the US, but September 2011 is the biggest moment in Spotify's history. And that is 2011 Facebook F8, their big annual conference. During the keynote, Zuckerberg invites Danielek up on stage and announces a major partnership between Facebook and Spotify. And it's two things. One at that F8, Facebook had announced launched Open Graph and the platform the year, well, the platform launched many years before, but Open Graph launched the year before that basically allowed lots of people to now insert activities that people were doing in non-Facebook apps like Spotify, like Zingha into the newsfeed. They launched the ticker in 2011, which is basically like a real-time fire host stream. I think this was kind of in reaction to Twitter of everything, literally everything all your friends are doing. That's right. Streaming by you. And it was like that little, you had your regular newsfeed, but then up in the top right corner, you also had the real-time ticker. Yep. And it was basically just garbage that got overwhelmed with marketing that all these companies were hacking into Facebook. But so in this partnership, not only is Spotify a launch partner for the ticker. So, you know, all what all your friends are listening to, playlists they're making, everything is getting pumped into the ticker and the newsfeed. They also, if you have Spotify installed on your computer and you're on Facebook, there are play buttons on all of these things. In the ticker and in the newsfeed, you just click the play button on the song right within Facebook. It starts playing the music. And so if you don't have Spotify installed, this is a big incentive to now install Spotify. And you know what? We sort of, what's the right way to say this? We sort of criticize and poke fun at the, wow, they really hijacked Facebook for this purpose. But this is like the exact perfect product usage fit match where it was an amazing, amazing experience as a Facebook user to suddenly have like real-time music available as a play button from that little thing. Like at the very least, it was super valuable to see, to have social music recommendations. And this is a thing that like we, it's sort of assumed today that's like, oh well, Spotify's cool playlist will show me what my friends are listening to or based on my listening habits or you know, a friend will tweet out what they're listening to. But this was like so crazy breakthrough that I, it basically takes the way that people used to word of mouth recommend new albums to their friends or old things they had found that were cool and bring them into the primary way that you were interacting online. And I just think like it was a brilliant move on Spotify's part to be able to get this distribution and you know partner with Facebook in this way. But talk about a perfect, a perfect reason for Facebook to have a platform. Like Facebook was never going to do this. They can't wire hog. They had a million other things to do. And this made their service so much better at least in, you know, maybe not as as crazy as they went with the implementation. But this notion of of being able to experience my music based on what my friends are listening to. Actually, I think you're right. Like it is unfair to lump Spotify into this whole group of companies. Zingha being, you know primary offender number one of just hijacking the news feed. Like it actually was a pretty good product experience. Now do I care that like Ben is listening to wake me up before you go or somebody I went to middle school with is like no so they overdid it. But like this and I think you see this now like of all these companies and there was a whole wave of them. You know Zingha there are a bunch of social newsreader apps. There were social shopping sites like all this stuff. All these companies are dead because they weren't actually like useful products that people wanted. But Spotify is still around and is a 30 billion dollar company now. It's like the only what I mean Zingha is still around. But that's mostly because of their real estate holdings. But yeah. And one other point on on Spotify is while it's significantly ratcheted back on Facebook like you don't really see see this in people's news feeds anymore. Spotify themselves gained enough of a critical mass where you know most people are let's throw out most millennials in the US who are going to be on Spotify are on Spotify. I don't know if that's a totally fair assumption but let's just take that at face value for the moment. They have that experience in the sidebar on Spotify where you can see what your friends are listening to that is snagged from the Facebook friend graph. And so you know they're not using it as it necessarily as a growth vehicle anymore but I would say maybe once every other week or so I will listen to a song because it's in that sidebar on Spotify. And it's still you know harkening back to that it added to the Facebook experience. It adds to the Spotify experience to have a current view of what your social network is listening to. Yep. Yep. Well regardless it certainly works for Spotify. So basically overnight like I mean literally in 24 hours they get a million sign ups from this because it's all over everyone's new speed. Wow. And then within the month they've doubled their user base they were almost doubled. They were just over 3 million users primarily across Europe at this point in time. They just launched in the US and by the end of September there they're I believe over 6 million users and over 2 million of those are paying. So. The US is a heck of a market to enter. Yeah. Tell it well especially on the back of Facebook and Mark Zuckerberg you know bringing you on stage on the keynote. Right. So 2 million of the 6 million from the US were were premium. That was I bought that was worldwide. So 6 million worldwide 2 million paying premium. And that's a lot of money. Like that's also that's not so different from today. I mean today it's in the high 40 percent but I mean it's really interesting from the earliest days they had an incredibly well converting freemium model. Yeah. You're incredibly well converting. And they tweak it over time. So originally it was free to listen on desktop and then you had to pay to go mobile. They tweaked that so that it was free on mobile as well but only shuffle mode. So you couldn't you still can't pick specific songs. You can only shuffle playlists. Yeah it converts really well. So basically you know on the back of that like that's the rocket fuel that that Spotify needs to to re-discape velocity and take off into the large companies today. So they finished 2012 the next year with 20 million active listeners. So huge growth like over 3x from 2011. 5 million paying subs. So almost 3x growth on paid 1 million paying subs in the US at the end of 2012. And then they just start raising a ton of money to keep pumping it into marketing and product development too. 2012 there is 100 million from Goldman Sachs at a 3 billion dollar valuation. 2013 there is 250 million at a 5 billion dollar valuation. They also funny aside kind of just like Dropbox. This is the era when everyone wants to be a platform. So Spotify also gets caught up in this builds the Spotify platform allow app developers to build apps based on music. It's like wait really? Yeah of course this is all buried in history now but. Completely missed that. Lots of hype. They launch it late 2011. They kill it in 2014 but it's like this is the future you know you can build apps with music and it's like what? Anyway fortunately. But it's so funny. It's so funny to watch these companies try and launch these like broad based platforms that don't make sense and then you kill it and then yours down the line launch another platform that is like highly targeted something that really makes sense like Spotify connect today is freaking awesome. Like the ability to play Spotify out to various partners Sonos and you know everyone that can hook a speaker or a playback device into Spotify. It works so well and like that turns out that was the killer way to integrate with with Spotify for things coming out of Spotify. Yeah yeah totally. But they get there and they just keep raising more and more money. They ultimately end up raising I believe about two and a half billion dollars in the private markets. They also in late 2015 and then into 2016 as you know Facebook is now no longer Facebook has vastly locked down its platform. You're not getting all this crazy distribution. They really catch the next wave really well too and time it well with machine learning and recommendations. They launched the Discover Weekly playlist, machine learning generated algorithmically generated playlist unique to each user with new songs that they think you like or songs that you don't know well that they think you like. They launched that at the end of 2015 radar which is new music from artists you like launches in 2016 along with the daily mix and this drives kind of the next wave of growth in the company and engagement. And so by the end of 2016 they have 40 million paying subscribers which like that's a huge growth. And just to take a pause on sort of internal innovation it's worth pointing out that the Discover Weekly playlist was a like very much an experiment within the company before they launched daily mixes before they came out with release radar before that got promoted to like a first class thing on the home screen. It was just one of the playlist available to you like 70s 80s 90s Discover Weekly and they had this framework which were playlist on which they could sort of test this new concept of can we algorithmically generate stuff that people will want to listen to and be accurate in that and improve in that. And it's really interesting. I mean the innovation that the company had that they have sort of a few innovations over their lifetime but that ultimately made them a 30 billion dollar company it was streaming should be the way that this that this world works and we're going to persevere with the music labels to make that happen. Facebook is this amazing distribution vehicle so we're going to you know that that's our sort of innovation number two. And we're in the wave of number three right now and they really had a nice framework internally to be able to not only test something but then like now we're seeing really doubled down on it as it was working and promoting it to like a first class piece of the platform. Yeah and I think it also it's a good point we didn't really cover earlier this has always been a thread through Spotify's product history but is best expressed in in these in these playlists and Discover Weekly and Radar and Daily Mix is this idea of the playlist like playlists had been around you know since recording cassette tapes you know in the 80s and then certainly iTunes had playlists but what was great about Spotify is they really made playlist the first classes and so like and this is part of what they got the labels back on board with is whereas iTunes is a singles focus like you you are buying individual songs you can buy albums but like people buy songs with Spotify the focus is on playlists and that kept people engaged engaged with artists and and listening a lot more and when the labels were getting paid bit labels and artists getting paid based on number of streams keeping people streaming more listening more aligns and send it was a lot better yep absolutely um so end of 2016 40 million paying subscribers now some of those are family plans some of those are student plans we talked about this in the beats episode you know it's not quite fair to say that um you just multiply that by 10 and that's how much they're $10 per month they're euros per month is the is the cost and that's how much they're making per month but even if you multiply it by five be really conservative that's two hundred million dollars a year as in subscription revenue per month um that's a lot of a lot of revenue and that is a serious business wouldn't it be great if they could keep you know a ton of it instead of just like you know like a great 10% of it wouldn't that be great well they keep 30% yeah well ultimately so I guess what where I was going with this is ultimately there during that year and in 2016 um their uh uh gross margins on the premium stuff is uh is 16% the ad consolidated stuff they actually lose or sorry the ad supported stuff they actually lose 12 percent so it's a negative 12% gross margin and and their consolidated is uh is 14% which jumps up the next year due to sort of a deal negotiation but um you know the the thread as we as we get into um sort of narratives around the IPO which we'll we'll go to in a few minutes um I'm sorry the the direct listing not the IPO is certainly that it's you know that it's incredibly low margin business relative to a lot of these other technology behemoths that have have really become huge the last few years yep well to get us there quickly uh companies growing as we mentioned earlier there's always been a robust secondary trading market for the stock they've raised all of this money they don't need to raise any more money um we'll get into the business model and in a minute in narratives but at the very least they have a very nice cash flow dynamic where their subscribers pay them up front every month uh the $10 or 10 euro a month subscription fee they don't pay the revenue share uh Spotify doesn't pay the revenue share out to the labels until after the end of the month so um just like amazon in this regard they have a positive or a negative working cash flow cycle um that allows them to be cash flow positive even if they're not net income positive um and in the meantime they had hired uh that guy named Barry McCarthy as their CFO who is their CFO he had been the former CFO of Netflix also took a short detour after that to be you see how I love clinical uh sad we're we're not gonna talk about that one here that would be if we're the full for this episode was to get to yell clinical clinical oh my goodness one of my friends in business school did his summer internship at clinical that's for another episode anyway fortunately for Barry he moves on quickly from clinical and becomes the CFO Spotify and Barry's the one who really leads the charge saying why would we do an IPO and give 7% of the offering a raise money when we don't need it take delusion in the company give 7% of the offering to banks let's just do this direct listing um so they do they said a reference point so there's no there's no pre sales like in an IPO uh they set a reference point for trading of $132 share or uh which equates to a market cap of about 23 and a half billion that's where shares have been trading on the private market um they announced that they're gonna do the first trade publicly on Tuesday April 3rd which they do it opens the first trade happens at $165 share and 90 cents right around to 30 which is totally way higher like the reference prices 132 writers reported that it would be between 145 and 155 um you know that it just just kept climbing up to the day yep and so that's about a 30 billion dollar market cap it ends the day at $149 share or 26 and a half billion dollar market cap still up um as we alluded to the folks at the New York Stock Exchange mistakenly raise the Swiss flag outside the exchange it's gonna start with S there instead of this fine date Swedish flag it's okay that's quickly rectified uh but this morning here we're Thursday morning two days later um still trading about $150 to share so right around just below a 27 billion dollar market cap yeah and the really important thing here sort of for the future of direct listings is you know will it will it sort of settle here because the thing that everyone was really worried about is there's gonna be all this incredible volatility they didn't hire bankers to stabilize um you know that that if it if it ends up falling below $132 a share that's below the last uh last place it was trading in the private markets um but you know all indicators are positive right now and uh Spotify did a few really intelligent things to sort of mitigate some of the possible risks of doing this direct listing and having all the volatility um the first of which being they actually did hire investment banks um and and as you sort of read a lot of these articles it it becomes clear that like it wasn't one it wasn't too like they they they they paid uh gold and sacks Morgan Morgan Stanley Allen and company um Morgan Stanley is is technically serving as financial advisor but ultimately they're gonna they're gonna pay 44 to 50 million bucks in banker fees yeah advisory fees yeah it's quite comparable to what they would have paid if they had actually IPO'd um it's it's sort of shy of uh recently if you look around um Snapchat paid over 60 million but but if you look you know dropbox was only around 30 million mango was it like 17 million stitch fix was at 7 million like they're actually despite the fact that that uh they are doing a direct listing and there's lots of other reasons why that's awesome um they are uh they are paying a hefty fee out to banks to help uh I think to help stabilize or help craft the messaging or or something yeah I'm not sure exactly what the banks are doing I think it's probably their institutional sales forces that are um uh marketing the stock to large institutional investor clients hedge funds mutual funds and the like um I think that's probably what they're paying them for which is really what a bank would do in an IPO process sure it's just that they're doing it on an advisory basis instead of taking literally buying the shares from the company and then reselling them to those investors so yeah so we get in there yeah one other thing the other really smart thing that Spotify did leading up to this is they um you know they they encourage sort of second market uh trading for their employees and they um you know the more volume gets out there to be traded the more certainty they have around what it's gonna be in the in the public markets and so um I don't know exactly what they did I this I think they waived they waived the basically their right to um be the ones purchasing when employees are selling their shares um to to kind of encourage this so um so we get into narratives yeah let's do it let's do it so one thing that's interesting to take a look at before we get in before totally doing narratives is what the cap table look like so um Daniel X still owned 25.7% of shares and Martin owned uh 13.2% so that's almost 40% among the two co-founders that's like a drop box level yeah ownership it's more than drop box yeah they took on so much capital yeah I mean they they raised two and a half billion dollars and it's been 12 years yeah well they raised it such high valuations along the way um and again you know this is narratives here they raised it such high valuations their revenue numbers were so impressive um but the question is how much of that is you know gonna flow down to the bottom line after the labels take there 70% cut well it's so funny to be doing this right after drop box because if you look at them you know these ownership percentages are so high and you say why are they so high growth is an amazing leverage point and uh and and um uh profitability or or close to profitability or at least running a lean operation and generating a lot of cash is also a really high leverage point so both of these companies grew like wildfire monetized from an early day um and and you know that just gives them a lot of of ability to um to raise it really high valuations and and bring a lot of cash into the business with a lot of certainty in the future yeah but the difference between drop box and Spotify as I'm sure you'll get into I actually didn't look up what do you know offhand what Spotify's overall gross margin is um I do I do so it actually went up uh last year because of a renegotiation with the labels right where Spotify said look we want it we want a higher take rate um but if we don't grow and hit our numbers uh you get to take more money and so it went from if you look at their consolidated gross margin from 2015 16 and 17 it was 12% then 14% and then a huge jump last year to 21% so they're definitely betting the farm on on future growth here right now and you know being nicely compensated for it from the labels yep so it's uh 21% gross margin 21% yeah and and for folks that are that haven't stared at gross margins all day uh what you would want from a technology company is really high fixed costs and really low variable costs so that would be a really high gross margin because you your actual cost of revenue is uh is very low so if you look at something like a Facebook they tend to hover around an 85% gross margin and uh Google I think it's 80s low 90s um but drop box getting back to that comparison uh is uh just under 70 so 67% gross margins currently at drop box uh so all of this is significantly higher and and Ben just like you were saying like the reason this is important is like you know tech companies require a huge amount of fixed costs in the engineering in the servers all the stuff that you need um uh the employees that you need to uh build the companies um but then the business models tend to be so scalable on a marginal cost basis like it doesn't cost Facebook anything to sell another ad or Google anything to sell another ad word drop box it does cost them in storage uh to bring on new customers but yep especially as after they've moved off AWS it doesn't cost them that much you know they're still making 70% gross margins right not the case with Spotify that's right that's right so getting into the narratives um a quick snapshot of their business today they're they're unprofitable um in 2017 they did five billion dollars in revenue which is awesome uh but they took a 1.46 billion dollar loss so you know you would you would hope to see that sort of change soon where they're actually generating uh generating a profit rather than generating a billion and a half dollar loss when they have five billion in revenue but they're not there yet um on their balance sheet they have $582 million of cash available so about half a billion bucks of cash um now if one thing that's interesting to note so they didn't raise any money because this wasn't an IPO they've got half a million dollars of cash available on their balance sheet but they're losing a billion and a half every year um or at least at their current run rate so unless they get profitable fast uh they will actually need more money to continue funding the business um now yeah i think there's a yes but here um yes but if you look at it because of some of the dynamics we were talking about earlier with the negative working cash cycle they actually are cash flow positive operating cash flow positive so in 2017 they generated a hundred and 79 million euros in operating cash flow um now they still lost money uh on a cash basis for the year right um because they're having to pay off uh interest on um on the debt that they have the convertible debt that they have um so you know yes they will eventually need to turn um that income positive that's the bet here uh but they are cash flow positive on a they are cash flow positive but it's not anywhere near the levels that drop boxes at i believe well i can look it up quickly i believe drop box is um generating right around half a billion in operating cash flow right now and growing quickly spotify growing too but like they're kind of hamstrung by these margins yeah yeah and thanks for that correction that's a that's a great point and not to be overlooked um and the last thing i'll say is growth is spectacular like if you look at revenue growth from 2016 to 2017 they went from 3.6 billion up to that that five billion number um you know when you're generating that much revenue to be growing like that is is really i mean they're in a they clearly um you know hit a high pressure valve when they were uh uh looking around for what market to enter this doesn't look like it's going to stop flowing anytime soon um they uh they have a hundred and 59 million monthly active users 71 million of those which is almost half are uh are paying paying premium subscribers which means they're they've um switched off the ad tier and into the paying tier um which is they have double the number of of Apple music subscribers i actually don't know if that subscribers or or monthly active users but they sort of brag that they're double Apple music um so you know that that i think it's i think it's huge growth business i think it's subscribers i think it's paying yep yeah i think that i think that's true too uh so real quick i looked up dropbox so dropbox 2017 330 million dollars in cash flow from operating activities uh spotify 179 million dollars so roughly a little less than twice as much uh for dropbox mm-hmm cool thank you uh so if you look at what spotify says in their their f1 um you know they're they're they're advertising that streaming is the the title wave on here and it's it's very early days and it's it's growing globally um that smartphone growth is a huge driver that spotifies the market leader in a huge way and even this behemoth apple can't can't catch them um they use data in a huge way to provide this personalized experience they're running as an operationally lean business um and that that they really saved music like they they are not shy about this story the way that they open their f1 is really by talking about um the incredible decline that the music industry was in and uh and how streaming sort of pulled them out of it and saved the music industry and so the way they talk about themselves you know the the skeptics would argue that um you know they are really at the mercy of these these labels and they have no bargaining power and they have no pricing power and the what spotifies as is look like the music labels love us because we saved the industry and there's all these ways for both artists and labels um for everyone to do better because the way that we enable people to listen to music actually creates growth for music yep and i think all that is is is true um you know it's uh uh uh shan parker and napster two point out that's right the music industry yeah so what would the skeptics say um you know it's i haven't heard as much about this in the last call it six months but for the few years before that it was like spotify was a trope like it's a terrible freaking business they're always the the suppliers have all the leverage the the music labels take a huge cut not only do they have take a huge cut but there's a most favored nations clause in the uh in their um agreements where uh basically for spotify to get a better rate they have to go and a and get all of the major labels the sort of four or five major labels that make up 85% of the the music's listen to on spotify to agree to this new lower rate um it's a car it's a total cartel and unlike uh the the technology business of uh let's let's look at Netflix for example where they actually um license the shows and pay an upfront cost of you know you look at house of cards a hundred million dollars to create house of cards internally or a license that Netflix creates the shows that Netflix creates the show or or pays a license fee sorry I conflated those two uh existing back catalogs of from from other existing produce shows they pay a one time fee upfront and they own that for a certain number of years whereas uh and and so they can generate as much revenue as they want for it they get to keep the revenue and it's just a sort of a one time cost um but if you look at what spotify is doing compare and contrast every single stream um you know it has a percentage that's paid out to the music labels and therefore um you know spotify cannot outrun their costs it's it's this yeah it's this difference between variable and fixed costs like Netflix has an even greater amount of fixed costs versus spotify both because they're paying upfront a fixed price to license the the shows and movies that they didn't make and then a lot of money to actually make their own content uh but then when they all their revenue they just keep all the revenue um they don't have to pay a percentage of their subscription fees to the movie studios it's the opposite what you're saying with with spotify where a percentage a large percentage of their subscription revenue is getting handed sit right back to the labels so as the subscription revenue grows so does the amount that they have to pay yep uh it's a good good succinct explanation uh you know skeptics also argue they they have catalog parity with Apple music whereas if you look at something like in Netflix um I have all this great stuff available on Netflix oh gosh there's this entirely non-overlapping subset of stuff available on HBO go maybe I'll pay for both I'm sorry HBO now um maybe I'll pay for both and then there's actual um people actually do subscribe to multiple of these things and if you look at a music subscription service basically no one subscribes to multiple uh because they have the same back catalogs and skeptics would say that congratulations you have algorithmically generated playlist uh I don't think that's differentiating enough to make people switch or uh make artists want to launch with you know any sort of exclusivity or anything like that because it's still only ever going to be this subset of the market of listeners they could release to by releasing on both um and lastly that that music is something that's just going to be owned by the platform owners so sure you've done well spotify but you had a 10 year or nine year head start on Apple music and god they're growing so much faster than you are they will catch you soon I think when we did the bundle of the places when we did the beats episode was it 36 million subscribers I believe that Apple music is at now so roughly half of spotify is paying subscribers and that's in uh uh two years two and a half years since it launched yeah I mean it's a bit of a farce for Spotify to say we have twice as many subscribers as Apple music like you are almost a decade older than Apple music yep and they're they're coming up fast and for all of Spotify is really brilliant as we talked about distribution tactics uh you can't beat being the default player on the device but then also you know there's another there is another um I don't and so that was what the skeptics would say I mean I use Spotify I don't pay for Apple music I'm uh highly ingrained in the Apple ecosystem like maybe they're the ones who can do it yep well I was gonna say there is another um player you know lurking in the shadows here uh which is what do I do uh I use Amazon music and that's Jeff Faezus your margin is my opportunity even if your margin is very small uh David that's because you don't like music I do like music I actually converted I now pay for Amazon music uh but it's cheaper I think it's seven bucks a month at a six or seven bucks a month um but because it's baked into prime either so when you pay for it you're you're you're 12% gross margin is my opportunity like well welcome to welcome to Bezos land yeah uh because it's all bundled it's all part of prime uh Amazon can have a totally different business model um so Amazon music unlimited which is what you pay for is cheaper than Apple and Spotify just is good um I mean maybe there's some small things on the margin that like Spotify does better with with algorithmic recommendations and Apple being baked into the device but like ultimately especially within an Alexa world now being the default on Alexa um that's very powerful um apologies to all the speakers of our listeners who we just activated Lady A uh you know uh uh and price is is meaningful to a lot of people and then there's the free tier for Amazon which is you have complete control it's a limited catalog but it's most of the stuff that you care about if you're a casual music listener and then it's just completely free with prime and you can play directly you're not limited to shuffle mode uh you can play on any devices um you know it's it's a big disruptive force yep yeah I'm not gonna bet on it but um good case I think it's what why wouldn't you bet on it I don't think Amazon gets music like I think um I mean we've seen them try it with Amazon MP3 like they've taken multiple stabs at music I think it's uh it's uh um an animal that you have to have the right DNA to create I think that could be we talked about that a lot on the beats episode I do think though there's an element of segments of the market like there are a lot of like how big is Spotify's tam really of people who are gonna pay 10 bucks a month in the world for music like they already have 70 million people doing it how many more people will do it especially when there's an alternative out there of like I could get something that's like 60% is good for free yeah I mean for free that yeah so I think Amazon will take share on the for from Spotify's free tier or better yet since it's a growing market will take the share that would have gone to Spotify's free tier I I don't I wouldn't bet on them for the the subscriber revenue yep well I think there you have the narratives on on Spotify yep all right into what would have happened otherwise let's do it um well they could they could have IPO'd they could have IPO'd yeah now they are generating cash from operations um so they don't need the capital they've already raised a lot of capital um the here here's a crazy thing that could happen I was foreshadowing this a little bit earlier with the Ben and Jerry's thing but they could IPO like now that they're publicly traded I mean that six months or a year or two years like if they need to raise cash I mean it's it's like doing you know dilutive secondary offering yep that a public company would do uh in secondary offering yep yeah yeah and they could just do that as their IPO um and as I was thinking through this David like I want to make sure I'm thinking about this right so let's hypothetically say they do this they do this direct listing and started trading at um what 165 um and it's up to 150 right it's very it fell to 150 but it's at 150 right now um let's say it goes up to 180 or 200 in the next year or so um and then they go and do an IPO at 200 they basically get to raise cash later and take less dilution yep yep yep and and so like if there were these liquidity reasons why they wanted to be public but they thought about it like huh I don't think we actually need the need the cash right now so let's not take the dilution let's take some dilution later if we do need to raise capital like you could see that this is maybe only chapter one and that the the dilutive offering happens later yeah I mean I think the question though is will they need capital I think they they don't in in their current business model they will need capital potentially if they try and move to the Netflix playbook uh we are going to develop our own artists and make our own content now that's been bandied about in music and you know there was the famous Taylor Swift you know exclusive with apple and that didn't work out Ben Thompson's written a lot about this does it make sense in music to have exclusive content in the way it does with video unclear um yeah because he here's the thing is in in video since people are used to paying for multiple or switching between if somebody launches something like stranger things then you're going to switch to that provider or you're going to add provider if you want to watch that uh if you're an Apple music subscriber and Taylor Swift drops her new music video only on on Spotify you're not switching like you're highly highly ingrained with all these playlists and configuration and friends that you've made in one service of the other you're probably not going to do it for new album I mean maybe for like two or three artists that are all like if Jay-Z and Beyoncé here's the thing they actually do with title like if if if you look at like it hasn't worked for anyone yet well I think it doesn't work because it doesn't make sense for the artists like especially in today's industry as an artist you make your money from shows and from branding and merchandising you need maximum exposure maximum reach you wouldn't want to artificially limit you know your audience whereas in video it's a lot different like you have a lot more niche content and people are used to you know oh this will be this is an HBO exclusive or whatever like you know they're right the paying directly for content is a lot more ingrained in in people's psyche yeah plus you also have the actors who actors act in content across you know creators and publishers essentially like just because you know Will Smith did that exclusive movie I forget what it's called with Netflix that doesn't mean Will Smith can't go do his next movie with Disney or Fox or well Fox is part of Disney now or you know Universal or whoever whereas in music like Taylor Swift becoming an Apple exclusive or Spotify exclusive that means she's not gonna ever release content on the competitors like that doesn't make sense yeah something would have to change in the ecosystem where people would have to actually subscribe to multiple multiple providers which I don't think is going to happen or people artists would actually start generating more of their revenue from streams rather than from streams being their top of funnel and then monetizing fans more through shows and all that yeah so yeah I don't think they need the cash yeah well then it makes sense that they didn't do an IPO yeah which I think was the whole argument of Barry McCarthy the CFO right right and it's super the thing they touted which I don't think is the main driver but it's super employee friendly because they they don't have this six month lockup period in fact the only group I think actually I think Tencent is restricted from selling shares for some amount of time but that was a one-off thing in in in their agreement and all employees were free to trade on day one yeah so Tencent is a I think seven and a half percent shareholder of Spotify they did a deal with Tencent at the end of last year and 2017 where they essentially swapped equity stakes in Spotify and with Tencent Music Entertainment which is their Spotify competitor in China and this is Spotify was never going to be able to launch in China just like Facebook and Google haven't this is a way to get access you know to likewise Tencent TME Tencent Music Entertainment was not ever going to be dominant in the USA Europe or the like this is a way to go global essentially for both companies so it makes sense that there'd be a lockup for for those well should we get into tech themes let's do it let's do it well mine so I in these IPO ones I want to broaden to sort of tech and investing theme this big the big one for me that that I think is the I'm going to use your phrase the thing that's been bandied about in the press a lot recently has been are we going to see more direct listings because you know if this can be a shift away from the sort of walled garden of Wall Street and paying the banker fees and you know having to ingratiate yourself to that world which people have just railed on for you know particularly in Silicon Valley how dumb the process is I mean there's Dick Costello has done a lot of great interviews about how silly it felt to go do the exact same presentation 80 times on the road show and I have to really be a dog in pony show and so to the extent where you know spot if I can put up one stage presentation on that the video recorded and then everybody can just look at that and then they don't fly to New York and bring half the company and ring the gong and throw the parties and give the interviews like maybe this is the way of the future yeah well there a bunch of problems too like you know the Dropbox IPO last week like you know as a big day as we said in Silicon Valley here lots of Dropbox employees and investors but like it wasn't too because they're all subject to the lockup like you know and then and then you know it's depends then the lockup comes off but like maybe that depresses the stock a lot of people are selling sometimes companies you know will re lock up their employees and investors to prevent the stock being depressed traders build the lockup into their models yeah yeah it's just you know it kind of sucks and you know the plus the having to create new shares to sell to the public if you don't need the cash and you always have to do basically a minimum of 7% of the company like why would you do that you know I mean in these later rounds that dropout that Spotify was raising they were selling you know 1% or less of the company why would you now sell a huge amount of the company yeah I mean it the criteria that I basically came up with this fourfold for will we see this in the future one is I think you have to be a household brand name like Spotify like one of the things the bankers do on the road show is like really familiarize the institution and large blocks of potential shareholders with with the company lots of people were already very familiar with the company yeah you have to not need the cash so you know that that already limits lots of companies you have to have this very cash efficient business model and we need this Spotify price to hold steady and if if it doesn't I think it'll scare off people from doing this for a long time yeah and and it's not that volatile right now it's done a nice job of staying around where it should be but it's it's bounced around a little bit so I think the next few days are going to be telling great telling yeah well I think there's one new onsite ad to your first point which I totally agree with is you have to be a known name I don't think you have to be like a consumer household name you have to be known amongst the institutional investor community but that's also happening because those those mutual funds those hedge funds have been investing in private companies over the last five years yeah so they know these names these these stocks you know whether it's whether it's T-Row price or Tiger or Wellington or you know like all these I don't know about T-Row but but all those other firms were already shareholders in Spotify so they already and these are the biggest owners of public stocks in the market so a lot of that education and marketing is kind of already happening while companies are private. I have one self-serving tech theme that I thought was just fun to read in their F1 so they list they list podcasts and they're yeah they have a services section and they list new content offerings in one of those video and one of those podcasts and I have been noticing like you know as much as I have held the belief that Spotify and SoundCloud and anyone else that's starting to work in podcasts just isn't doesn't do it well relative to dedicated podcast apps you know it's now the it's I don't know if it's on like this on everyone's app but at the top of the home screen on my little homepage for Spotify it's listen to these podcasts and they say in their F1 um which this is a this is a big market stat about podcasts that there were 348 million podcast listeners across all platforms worldwide at the end of 2016 going up to 484 million in 2017 which is a growth of 39% year over a year wow and their quote on that is this engagement presents a significant opportunity for Spotify as we believe we have the ability to enhance the podcast user experience with a better product that is focused on discovery seriously notoriously the problem in podcasts think about the dynamics are very different the problems are very different but think about the issues with the music industry when Spotify came along and just fixed them from a product perspective just like Dropbox just fixed you know file sharing a different type of file sharing the podcast and this is where the podcast industry is today like the market is there it's growing like this huge that but like the the industry and from a product perspective is completely broken like somebody somebody needs to come along and just fix it I still don't know if it's going to be them I like the bet on the industry right now and I just think it's kind of fun that they had in their F1 yeah yeah I don't think it's going to be Spotify either like it's it's hard for big companies to do this anyway it's kind of hard for me to believe that Spotify is worth 30 billion dollars I mean maybe I'm getting into grade the grade the DPO right now but like I mean think about like Uber just had the share tender for like 50-ish billion and like you look at Airbnb's most recent private valuation like I it's Spotify really a 30 billion dollar company yeah I mean the thing is like we're just so divorced from fundamentals at this point you know like Spotify is definitely a 30 billion dollar company if you if you value it on a revenue multiple 100 percent but but their margins their gross margins are structurally very different from you know other tech and software companies so if you value it on a you know well you can't do a PPE basis because they don't have earnings but if you value it on a cash flow multiples of cash flow basis it's still nutty you know like even so let's say they do 300 million of operating cash flow in 2018 I don't know if that's what they're projecting but let's just assume you know then that's a what 100 times 100 times operating cash flow that they're trading at so like you're telling me that if you buy not Spotify today you are assuming you know so much growth that you're willing to pay 100 times the cash flow because cash flow really is how you should be valuing these companies 100 times it's cash flow today no I mean it's not crazy like other other it's not really crazy relative to other stocks trade that way too but I think this gets back to something I mentioned a little bit before like what's the tam how many how much growth is left in Spotify you know to to be willing to pay 100 times cash flow for something you have to be willing to believe that there's so much growth that like that's gonna because essentially what you're doing right now is you are paying for 100 years of cash flow of Spotify like the cash flow will repay your investment in 100 years you believe that there's a lot of growth that it's gonna be a lot shorter than 100 years but like I don't know can Spotify double probably can they 10x I don't know I don't think so yeah I mean it's interesting how my anecdotal evidence is so much different than the numbers like what I said at the opening of this episode and I said it feels like pretty much everybody that is a millennial that is going to buy you know it's going to subscribe to Spotify is already subscribed to Spotify but if you look at you know what they they they're reported user growth I mean they let's see our 159 million monthly active users have grown 29% year over year as of December of 2017 so and their premium subscribers have grown 46% year over year so yeah to your point will they 2x probably will they 3x seems like they could get there will they 10x yeah so then the other bet you're making is like well maybe they can improve their margins that's like a big bet you know or can they offer another product or can they offer the other piece here is they've got this audience you know can they start meaningfully doing ticket sales to concerts can they enter video in some way can they become the the provider of podcasts and then figure out how to monetize that I mean it there's yeah the quite how much do you model in possibility of a bolt on business yeah whereas like when I look at Spotify's a great company for sure I think I'm going to be very lot of toy in grading this direct listing because I think it was the right thing to do but it just in terms of like comparing I can't help but compare drop box and Spotify's you know first public offerings because they're listings because they're back to back with with drop box like I feel personally I feel a lot better making that bet because the bet on Dropbox to me is a bet like will the tam increase will more people have a use case over time to share files in a like semi professional sort of way versus with Spotify like are more people going to listen to music and want to pay for Spotify who aren't already now they're going into more countries but like how many more countries can they go into you know they're not going into China they did this deal with Tencent so they do have exposure to China I don't know hmm well I think it's time to go into grading and listen to here I want to sneak in a couple tech themes first I'll go for it all right I have three sort of interrelated tech themes that really we've covered all throughout the history and facts but I think I think are important here and that's the importance of a couple key product decisions and only a couple key things like with Spotify it was you know the focus on playlists it was that we didn't talk a lot about this but it was doing a desktop app not a web app because that enabled almost zero latency when you click play the file streamed and played immediately whereas some of their competitors because they're work competitors remember Groove Shark and some of the others they were all web apps the performance was clergy people don't want to wait for music just like a couple key product decisions that can really make the difference early on but then you have to couple that with distribution too like Spotify would have done well without Facebook but it wouldn't be a 30 billion dollar company without Facebook yeah and and then I think the related one to both of those that we just see time and time again on the show is like to do all that you have to be like you have to have such tenacity as a founder you have to have a vision it has to be right but then you got to like work at it for focus maniacally for many years years and years it took so long for Spotify to even get off the ground and then to go country by country and then five years later come to the US or I guess three four years later come no five years five years after founding come to the US it just takes a long time yeah Daniel X only 35 I thought he was a little older but yeah maybe he's only 35 I think that I think I saw that in the F1 I mean I mean looking at those company he started those companies before Spotify Spotify has been 12 years and it's just impressive passionate motivated founder yeah totally all right that's what I got all right so on grading listeners to clarify though we did just talk about you know do you feel like this is actually worth 30 30 billion dollars the way that we grade is was you know on the typical acquired format was it a good idea for the acquireer to pay this money for the acquireee the way that we grade IPOs and now DPOs is was it a good move for the company to to do this transaction you know was it was this the right move for them and so you know we're basically looking at three options here do what they did IPO or don't do anything stay private you know keep keep doing what they were doing sure seems like a great call I mean they couldn't do nothing they had to they had to get liquidity they didn't need to raise money it seems like they're not seeing any of the downsides that that would have come from potentially doing this direct listing instead of the IPO I mean the whole Wall Street community was a little freaked out and trying to naysay that gosh there's gonna be all this volatility and it's gonna drop below the last price that it was trading in the private rounds and the demands not gonna be there and you know lots of things but I don't think we're seeing any of that so it seems like it was a great decision and a gutsy one at that yeah caveat that we're still early it's only two days in me uh area so a lot will depend on what happens over the next couple weeks but but thus far yeah thank you for that because we may need that we may need that clause but the fears were about what happened immediately after trading like the whole point of doing an IPO the argument of the bankers is we're there to stabilize the stock stabilize trading if you go back and listen to our Facebook IPO episode they definitely needed the bankers to stabilize trading in the stock because it was a rocky rocky start um but you know without the bankers there what'll happen and like everything's been stable so yeah yeah I don't know I don't know how to assign a grade to it per say like it feels weird to grade this against we got to figure out what our our actual uh sort of format is for for these IPOs because you know it's it's sort of like either it was an A probably not an A plus or it was like a C it's it seems rare that we're gonna ever have an IPO decision that was an F or a DPO decision that was an F we might maybe if we revisit the staff chat I go oh there you go there you go well do you want me to yeah I mean I'll say A we just have like a lot bit it's kind of silly for these on the scene ones to do any grading at all but um you know all signs are positive right now yeah I mean if there is stability now now I do have some questions personally about a $30 billion valuation for Spotify but that's what it's you know the market is saying um but at least that's what three three point two percent of shareholders who have sold have managed to get the market to say right right which is not a large float um so that may be artificially artificially supply constraining the stock and raising the price uh driving the price up but you know as long as there's not like panic trading which it seems like there's not this seems like a good new path for companies to get liquidity get out on the public markets it would be great for Silicon Valley if like this becomes a viable path um so so far so good yeah hey and if it does like Barry McCarthy the CFO is going to be hailed as a genius yeah yeah no kidding yeah formal clinkle formal clinkle employee hailed as genius story 11 come come a long way come a long way Carvouts Carvouts um so uh I can't remember if I've actually mentioned on the show or not but I know I've talked a bunch about my my wife Jenny uh she is uh the head of um audience engagement and education at San Francisco Ballet here in San Francisco and the ballet so if you if you live in San Francisco uh you should come to the ballet anyway because it's awesome uh they mean the athletes the dancers are amazing it's wonderful to watch always um but they're doing a big festival at the end of the season coming up at the end of this month in April um and uh festival of new works it's gonna be really cool uh and Jenny is hosting a number of um of panel discussions around it but one is gonna be called Silicon Ballet bringing ballet and technology together the intersections of tech and ballet and it is uh it's at the end of the month April 28th at 5 30 pm uh is it starring you and Jenny uh actually neither of us are are speaking on the panel um but they're going to be some really cool participants so uh if you're in San Francisco and Silicon Valley uh come come to the ballet always but uh but come see this panel it'll be really cool awesome well I finally saw black panther and uh that movie was amazing and everybody should go see it and it's uh remaining few few days in theaters um and even more awesome was the uh so Kendrick Lamar uh put together the soundtrack and he um did a couple of songs himself and guessed it on a couple of other songs and then hand picked a bunch of other artists and it's just powerful like it's a really uh um it's why maybe one of the better maybe the best Marvel movie I mean the the the the the the amazing sort of uh societal themes that are going on right now that they managed to pull into the movie and make extremely accessible and deal with really difficult topics um and have a really cohesive story with great character development and stunning visuals um I think I'm like the last person that to like be be talking about this and be aware of this but um if you haven't seen black panther yet I highly recommend it before it leaves theaters uh it's awesome yeah I haven't been able to get to the theater to see it but I definitely want to it uh it looks awesome or go on Spotify and listen to the soundtrack well that's what I was gonna say is can you get a playlist of the soundtrack on Spotify you can you can all right we'll link to it in the show notes we will spotify his new viral growth mechanic via the acquired podcast that's right that's right all right listeners if you aren't subscribed and you want to hear more you can subscribe subscribe from your favorite podcast client um if you feel so feel so inclined we'd love a comment on breaker um if you haven't tried that out to cool podcasting app um please comment or like this episode and create some virality of our own and uh if you're on iTunes or Apple podcasts we'd love a review there too and of course uh um always appreciate sharing with your friends um if uh if if you like this episode so thanks so much for joining us and we will see you next time see you next time