The tech unicorns continue to pull off strong IPOs this year. The latest: Spotify Technology S.A. (NYSE:SPOT). Spotify stock definitely is one to watch.
This puts the market cap of Spotify stock at about $28 billion. In fact, this is the third largest tech IPO in history in terms of the initial valuation.
Spotify History
So what now? Well, let’s first get a backround on the company. Spotify is the mastermind of Daniel Ek, who was born in Sweden. When he was 13, he started a business to build websites for clients. No doubt, it was wildly successful. He would then go on to other entrepreneurial ventures. By his mid-20s, he was so wealthy that he retired!
But this did not last long. In 2006, he had the inspiration to launch Spotify. From the start, the vision was to create a streaming music service that would be a win-win for consumers and artists. At the core of this would be subscriptions.
All in all, growth was strong and Ek had little trouble raising capital. He would also get the help of savvy operators like Sean Parker, who was also critical in the early days of Facebook, Inc. (NASDAQ:FB).
And as of now, Spotify IPO is the dominant player in the music streaming service. The platform has 71 million paying subscribers, which compares to Apple Inc.’s (NASDAQ:AAPL) 38 million.
The Risks of the Spotify Stock IPO
One of the biggest threats to Spotify stock is the intense competitive environment. The company must fight against fierce rivals like AAPL, Alphabet Inc (NASDAQ:GOOGL) and Amazon.com, Inc. (NASDAQ:AMZN). There’s also buzz that FB will make a play for the market.
Note that these companies not only have enormous resources and large distribution footprints but also do not have to rely on music revenues. If anything, streaming can be more of a loss leader, which is likely to be ominous for Spotify.
Yet the biggest challenge for the company’s IPO is the core business model. For the most part, the company must negotiate with three mega music labels, which include Universal Music, Sony Music, and Warner Music.
The fact is that they have tremendous leverage – and are not afraid to use it. Granted, the labels are also investors in SPOT stock. Yet despite this, they still take a considerable chunk of the revenue base.
Last year the cost of revenues, which consist mostly of royalty and distribution costs, came to 79%. In light of this, it should be no surprise that Spotify has had a tough time getting to profitability.
Unconventional Dynamics of the Spotify IPO
The Spotify IPO is definitely unique. The transaction actually did not result in the raising of capital. Instead, the company listed its shares on the NYSE and existing shareholders sold their own holdings (co-founders Ek and Martin Lorentzon plan not to unload any of their stakes).
Because of this approach, the Spotify IPO did not have the traditional roadshow (this involves executives who travel to financial firms to make their pitch). There were also no traditional underwriters, who provide distribution to investors. Oh, and of course, there were no hefty fees either!
Bottom Line On the Spotify IPO
During the past year, tech IPOs have done quite well. But if you look deeper into the numbers, you’ll notice that consumer-type operators have lagged, such as Snap Inc (NYSE:SNAP) and Blue Apron Holdings Inc (NYSE:APRN).
Rather, the top gainers have come from lesser known enterprise and cloud companies like Okta Inc (NASDAQ:OKTA) and Mulesoft Inc (NYSE:MULE). These companies are not subject to the vagaries of fads. They also have the benefit of providing critical technologies.
This is not to imply, though, that Spotify stock is doomed. But then again, it could be tough to sustain ongoing gains, especially as the company will likely have slower growth rates as the competition takes a toll and the losses continue.
Tom Taulli is the author of High-Profit IPO Strategies, All About Commodities and All About Short Selling. Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.
