Streaming Music Has a Problem—It's a Huge Success

Pandora, Spotify and others need revenue—and where they want to get it from is ruffling feathers

Nine of the top 10 auto brands including Ford, Chevrolet and Toyota were running online radio ads as of September 2011, according to IAB’s Digital Audio Advertising Overview. The same goes for nine of the top 10 retail marketers like Target, Macy’s and Walmart; nine of the top 10 restaurant marketers such as Wendy’s, Taco Bell and McDonald’s; eight of the top 10 financial services marketers, including American Express, Bank of America and Chase; and seven of the top 10 telecom marketers, including AT&T (which was the top spender on traditional radio advertising, according to the RAB). Thus far, the money they’re spending mostly comes from digital campaign allocations, not the radio side.

But streaming music user growth is outpacing ad growth. Online listening is on par with streaming video and playing games as one of the most widely adopted Internet activities in mature markets (France, Germany, Japan and the U.S.), according to a 2010 Accenture study. In the U.S., 89 million people listen to online radio each month, and 57 million each week, according to Arbitron and Edison Research, a number that’s doubled every five years since 2001. Pandora alone has captured 4.3 percent of the U.S. radio market share; its 100 million users streamed 2.1 billion hours of music in Q3 2011, more than doubling what it streamed in 2010, it says.

The availability of streaming music on smartphones, which are increasingly car connected, is notable for the ability to displace both private collections (once stored on iPods) and radio. Importantly, the vast majority—estimates of 80 percent—of traditional radio listening is done in a car. Pandora and MOG have negotiated deals for their apps to arrive preinstalled in the control panels of a number of vehicles. Mercedes, Cadillac, Hyundai, General Motors and Toyota work with Pandora and MOG, which hired veteran Nissan engineer Martin Zacharias to lead its auto efforts, is available in new BMWs and Minis. The digital streaming players are quickly outgrowing niche status.

Their advertising is racing to catch up. Pandora has always derived the majority of its income from ads—sales for last quarter accounted for $66 million of its $75 million in revenue (only $668,000 of which counted as profits). Once entirely focused on digital ad dollars, Pandora is now making a concerted effort to dip into traditional allocations, putting together a hybrid sales team consisting of digital sellers and traditional radio sales people in local markets, says John Trimble, the company’s chief revenue officer.

“We’re certainly going heavier and harder into the traditional broadcast marketplace, advertising-wise,” Trimble says. With the disproportionate user-to-ad sales growth leaving Pandora sitting on unsold inventory, filling it, he says, requires “converting an entire marketplace and convincing them of the value of where the consumer is going.”

As for Spotify, around the time of its Facebook partnership, the company hired AOL alum Jeff Levick to run its U.S. sales operations. Of its 10 million global users, only 2.5 million shell out $4.99 per month for ad-free streaming. While traditional radio ilk (and even Pandora execs on occasion) claim that on-demand services exist to convert users to subscriptions, Levick argues that Spotify’s free, ad-supported product is “a huge part of the company strategy.” Once a free user’s six-month trial runs out, they’ll face listening caps and increased ads, but the service will never cut off entirely. “Free has to remain free, and that’s where the advertising lives,” says Levick. It’s going to be an uphill battle. In 2010, Spotify earned some $99 million, around $71 million of which came from subscriptions. The company paid out slightly more than its earnings in royalty fees.

Dave Marsey, Digitas’ group media director, says as consumption habits shift, Digitas has been making the case to use dollars from traditional radio allocations on streaming music sites. The targeting ability of digital is a key selling point, he says, as it goes beyond traditional radio’s location and time-of-day targeting. Listeners control the music they hear, so advertisers can target based on mind-set, something experiential marketers (like travel or financial services) benefit most from, he says. A genre, station, artist or playlist that’s explicitly chosen by the user tells advertisers what mood he or she is in—Nirvana in the afternoon, or Beatles in the morning, for example. That helps shape the advertiser’s approach, Marsey says.

But there are challenges for marketers and buyers that consider dipping into their traditional buckets. Foremost among them is one of definition: Are Pandora, Spotify and their peers digital, or are they radio?

“When people don’t understand what bucket you’re in, they can’t buy you,” Ramsey says.

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