In music tech, billion-dollar exits are few and far between. Only nine music companies have reached that status since 2010.
It’s a stat that concerns VCs who shy away from music because they see it as a cottage industry with small total addressable markets and powerful incumbents. These investors compare the recorded music’s nearly $40 billion music copyright annual revenue to the $184 billion gaming industry. And others see it as an extension of broader hesitation toward consumer investing since it often takes a much longer time for those companies to gain enough traction for billion-dollar exit potential.
That unicorn-or-bust perspective can have several drawbacks for venture-backed startups. There’s plenty of success to be had without the pressure to reach those heights. But if every investor thinks the same and overlooks the space, then they may lose out on differentiated returns. In other words: Investing in music requires a different definition of success.
Why aren’t the valuations and exits higher?
Any consumer tech innovation in music is somewhat dependent on streaming. In 2022, 67% of that revenue came from consumers having access to over 100 million of the most popular songs ever made. Once we account for family plans, promotional offers, and pricing in different regions, the average revenue per user is likely under $5 per month.
Here are some quick public stats on Spotify as of May 1, 2023:
– Market cap: $27 billion
– Revenue: $12.6 billion in the past 12 months ending March 31, 2023
– Paid subscribers: 210 million (monthly active users 515 million)
– Share of recorded music revenue: ~25%
Whether it’s a consumer or enterprise model, many music tech innovations will be somewhat dependent on streaming. Even if a consumer-facing music tech startup generates a solid $200 million in annual recurring revenue, it likely won’t warrant a billion-dollar valuation—especially if Spotify is used as a public market comparison. Spotify’s $12 billion revenue and $27 market cap imply a 2 – 2.5x multiple on its current revenue. It’s much lower than the 10x multiples that are common for software company valuations.
But most new music innovations aren’t likely trying to compete with streaming. Many are more interested in monetizing untapped consumer surplus. This is the goal for several web3 music companies that place more value on ownership of songs and albums. They often use the peak-CD era as a proxy for consumer spending potential. When adjusted for inflation, recorded music industry revenues are still down ~40% today since that peak. There’s room to address that gap, but given the growing number of ways for consumers to spend their money and attention, that comparison also has its limitations.
On the enterprise side, it all depends on the buyer. If the target audience is record labels, publishers, and rights holders (who rely primarily on streaming revenue), then the startup is still dependent on the unit economics and growth of streaming to thrive. Plus, those businesses are quite top-heavy. There are only so many customers out there who can become meaningful enterprise accounts.
If the business is selling a subscription service to artists or creatives, then it’s also dependent on streaming, but it’s also dependent on the service being offered. Some of these businesses can struggle to expand beyond their existing networks, but the ones that can scale across the industry—and even beyond music itself—have a better chance of reaching those sky-high expectations.
Where the potential lies
The irony is that despite limited unicorn exits in music tech, several of the underlying music copyrights have gotten 15 – 30x multiples on revenue in recent catalog sales. Also, some of the companies that grew on the back of music have had monumental returns. Since Apple launched the iPod in 2001, its stock price has grown over 440x (compared to less than 4x from the S&P 500 in the same time span). Former Apple SVP and ‘father of the iPod’ Tony Fadell said, “If we didn’t do the iPod, the iPhone wouldn’t have come out.”
For many investors, owning 1% of a billion-dollar exit may be the dream. But owning 10% of a $100 million exit generates the same amount of distributed capital (and is much more realistic in music). Sure, it’s growth-stage investing compared to venture. The later the stage, the more investing is about having access to strong contenders than a diversified approach across seed-stage companies. It takes more upfront capital but the outcomes can be similar.
There’s also a huge opportunity to build on and create new categories in music given how under-monetized the underlying assets are. Spotify gained traction because it solved a music consumption challenge with its prior modality (buying individual songs on iTunes is high friction, downloading viruses via pirated music), matched it with an existing behavior (downloading songs on peer-to-peer file sharing and accessing them regularly), and partnered with the record labels to make it happen (despite the contentious nature of their relationships).
The next level of innovations can be looked at in a similar way:
– What are the innovations that can solve key challenges for consumers/enterprises?
– How do those challenges line up with existing behavioral trends?
– How can partnerships with the incumbents help accelerate those goals?
– And similarly, how can incumbents benefit from the startup’s upside too?
There’s no “right answer,” but understanding the industry dynamics is half the challenge for both founders and investors.
Music is often one of the first industries to get disrupted by the next big thing. That’s one of the reasons it’s exciting. The innovators in this industry have a front-row seat to the important trends that shape the rest of the business world. I look forward to seeing continued growth for the startups along that journey.