Betting on the House: Five Issues that House Judiciary Should Investigate Against Google–End Supervoting Shares for Publicly Traded Companies

The House Judiciary Committee announced yesterday that it was opening an antitrust investigation into “tech giants” including Google.  Chairman Jerry Nadler said:

[T]here is growing evidence that a handful of gatekeepers have come to capture control over key arteries of online commerce, content, and communications…Given the growing tide of concentration and consolidation across our economy, it is vital that we investigate the current state of competition in digital markets and the health of the antitrust laws.

We’re going to look at five issues Chairman Nadler should consider that relate both to Google and to some others, too.  Let’s start with reforming corporate governance and bring eyesight to the willfully blind.

1.   One Share, One Vote, Not Ten:  Anyone in the music business has had just about enough of government oversight, so I don’t recommend it as a solution in general.  But–in the absence of marketplace transparency, the government is about the only place to go to bring reforms to well-heeled corporations.  So rather than ask the government to fix specific problems on an ad hoc basis, the government would do well to ask what causes the market to fail as it clearly has with Google.

The first question to ask is where was the board?  In Google’s case, the core problem is both easy to find and easy to fix.  It lies in the voting structure of the shareholders.  Shareholder rights and corporate charters are state law matters and don’t relate to the federal government, but–the federal government does have a say about who gets to sell shares to the public and has an interest in protecting the shareholders of publicly traded corporations.  It is this nexus that gives the House Judiciary Committee clear oversight authority over the corporate structure of publicly traded corporations.

While anti-coup d’etat provisions might make sense for private companies whose investors are sophisticated financiers, or newspapers seeking to retain editorial independence, once that company is publicly traded a bald discrepancy that simply mandates voting power to the insiders forever seems like it has to go.  And as we have seen with Google, the lack of corporate oversight has resulted in unbelievable arrogance and a complete failure of corporate responsibility.  And worse yet, because Google got away with it, lots of other tech companies follow essentially the same model (including Facebook, Spotify and Linkedin).

It must also be said that stock buybacks approved by a board where insiders who benefit from the buyback have supervoting shares and control the board is a practice that reeks to high heaven.  Buybacks and dual class supervoting shares have been widely criticized including by Securities and Exchange Commission Commissioner Robert Jackson who is also a critic of supervoting shares.

So how did this happen to Google?  The supervoting structure started when Google was a private company as a way for the founders to preserve control and avoid venture capital investors pushing them around.  OK, fine, I understand that.

Google (which is really its parent company, Alphabet) trades under two ticker symbols on the  NASDAQ: GOOGL Class A and GOOG Class C.

Oops.  What happened to Class B?  Ay, there’s the rub.

Class B shares are not publicly traded and are held by insiders only.  But as you will see, they control every aspect of the company.  So why would Google’s insiders want this share structure?  There’s actually a simple answer.  Class A shares (GOOGL) get one vote per share, Class B shares get 10 votes per share and Class C shares (GOOG) get no votes.

That’s right–Class B shares cannot be purchased and their holders get 10 times the voting power of the Class A holders, often called “supervoting” shares, because their super power is…well…voting.

The Class C shares were created as part of a 1:1 stock split that doubled the number of shares, halted the price per share, but resulted in no change of the voting power of the Class A and C shareholders.

When the dust settled, the Google/Alphabet voting capitalization table looked something like this:

Class A: 298 million shares and 298 million votes, or roughly 40% of the voting power with votes counting 1:1.

Class B: 47 million shares and 470 million votes, or roughly 60% of the voting power with votes counting 10:1.

What this also means is that the holders of Class B shares voting as a bloc will never–and I mean never–be outvoted at a shareholder meeting, their board of directors will never be challenged much less replaced and shareholder meetings are a sham.

Who controls the Class B shares?  The people that Commissioner Jackson might call the “corporate royalty“:

Larry Page: 20 million shares (as of 2017)

Sergey Brin: 35,300 Class B shares plus 35,300 Class A shares (as of 2018)

Eric Schmidt: 1.19 million Class B shares, 40,934 Class A shares, and 10,983 Class A Google shares, plus 2.91 million Class B shares through family trusts.

Sundar Pichai: 6,317 Class A shares and no Class B shares.

The House Judiciary Committee has a chance to correct the supervoting system as bad policy and implement a long-term fix across the board for all dual-class companies that want to trade on the public exchanges.

 

 

Is SPOT Starting to Tank?

Stocks go up, stocks go down, can’t pick a top, can’t pick a bottom.  But it’s fun to guess.

Back in December when Spotify’s stock price hit $116 I said I expected it to retrace its price to the $120-$130 range before testing new lows.  OK, I said it would close at $95 in the near future, perhaps as soon as January based on technical indicators such as the “death cross” when 50 and 100 day moving averages cross to the downside.  So I was wrong about the timing, but the recent trading activity and momentum suggests the stock is behaving as expected.

Here’s my current chart:

Spotify 5-23-19

Note that Spotify is getting close to a second death cross at significantly lower levels than the first.  Note also that the 200 day moving average (which we didn’t have yet in December) is also pointed to the downside and is not, frankly, all that far away from the 50 and 100 day averages.

I would also point out that the stock is now trading about $10 below where it was before it listed (the “reference price”), which means, roughly speaking, that Spotify is actually valued lower than it was as a private company.  It’s also valued lower than it was in December and well below where it closed on its first day of trading.  Although not quite as much lower as it was in December.  All this for a company that still requires investment capital to survive as it has since it was founded.  If that keeps up, Spotify may soon enter the unicorn abattoir.

Remember–Spotify is not your typical IPO stock.  In fact, it is not an IPO at all, rather something called a “DPO” or a “direct listing”.  The difference is that a DPO enriches only the initial holders of the company’s stock as Marketwatch explains:

Direct listings differ from traditional initial public offerings, in that the company doesn’t issue new shares or seek to raise money through the process of going public. Rather, the listing makes it possible for existing shareholders to sell their shares to the public. After Spotify’s direct listing, many said the approach could be used by other startups, given the lack of share dilution and required lockup restrictions.

It’s also important to note that Spotify announced a $1 billion stock buyback plan on November 5, 2018 according to Variety:

Aiming to boost its flagging stock price, Spotify announced a plan Monday to repurchase up to $1 billion worth of shares.

So Spotify’s stock has continued to decline despite this price manipulation by the insiders.

We shall see.

Spotify Songwriter Town Halls: Go Ahead, Make My Day

If you’ve heard about the high turnover at Spotify, here’s the latest confirmation:  Someone at Spotify evidently thinks it’s a good idea to have “town halls” for songwriters in Nashville and Los Angeles (but not New York).  “Town halls” imply an open forum where anyone can talk about issues of importance to the community hosting the town hall.  That’s apparently not what these Spotify town halls are to be about.  The intention is to limit them to a single topic–Spotify’s appeal of the songwriter rates at the Copyright Royalty Board.

First, remember that Spotify did this kind of thing once before in 2014.  Remember, in 2014 the company got a lot of groovy from the pillars of the music business who wanted to see Spotify succeed (and make bank on the stock).  In 2014, publicly criticizing Spotify was a new thing and it took some courage for artists to go after the company in the days before Spotify executives gorged themselves on the public’s money at the public market trough.

That 2014 charm offensive foundered, to be kind.  (See Meltdown at the Soho House: Spotify’s Artist Charm Offensive Tour Self-Destructs on Opening Night and Billboard’s coverage, Spotify’s Artist Outreach Mission Backfires.)

Why was it a disaster?  Mostly because try as they might, Spotify couldn’t control a roomful of artists and get them to talk about the topic Spotify chose–especially that one thing that Spotify wanted to talk about, namely how groovy they are.  Artist rights advocate Blake Morgan attended the New York meeting and politely and articulately took the Spotify self-cheering section apart brick by brick.  This wasn’t a cage match with Big Daddies on either side waiving their arms–the artists knew what they wanted to say and they said it.  They didn’t need any help.

This is why I find it hard to believe that Spotify is about to do the exact same thing all over again and expect a different result.  The mistake they made the last time was in trying to control the agenda and treat the meeting like a corporate communications event rather than an open dialog.  That approach is guaranteed to deliver a meltdown–which it did the last time Spotify tried it.  I had to read that news a couple times to make sure it really said what I thought it said as it all seemed counterintuitive.

If the company wants to open a dialog with songwriters and artists, then have that dialog–not a monologue.  Live stream it and record it so that everyone who is not able to attend has the opportunity to hear what’s going on.  There’s been enough closed door negotiating recently and people are tired of it.  Someone’s going to record it anyway, so why not get ahead of it?

But understand this–there is live litigation going on over the CRB rates.  Anything that is said publicly by the litigants could end up being admissible in some case somewhere.  So be careful what you wish for.  There’s a reason why public companies don’t usually engage in “town halls” concerning live litigation.

And also consider this–what if the reason that punches were pulled after Spotify’s US launch was because everyone wanted to sell those shares and cash out.  That’s pretty much happened already.  Now what’s holding them back?

A town hall is not a great look for Spotify.  Particularly when they may get an earful on a host of other issues from the vendors who make their only product–music.

If the smart people really want to dig a hole for themselves, far be it from me to stop them.  By all means–dig.  I’m just a country lawyer from Texas.  I’m sure the rich city fellers know much better than I do.

The Elusive Obelus: Streaming’s Problem With Denominators

“How did you go bankrupt?” Bill asked.
“Two ways,” Mike said. “Gradually and then suddenly.”

Ernest Hemingway, The Sun Also Rises.

No matter how much people would like to deflect it, the unvarnished per stream rate is an ever diminishing income stream.  Given the number of calculations involved for both sound recording and song, it is likely that the total end-to-end cost of rendering the accountings for the streams costs more than the royalty earned on that stream by any one royalty participant.  Solving this problem is the difference between a short-term stock-fueled sugar high and a long-term return of shareholder value for all concerned.  So now what?

If you’re someone who receives or calculates streaming royalties, you’re already familiar with the  problem of the ever-decreasing per-stream rate.  The Trichordist’s definitive “Streaming Price Bible” for 2018 confirms this trend yet again, but simple math explains the problem of the revenue share allocation.

Remember that the way streaming royalties are calculated in voluntary agreements (aka “direct deals”) revolves around a simple formula (Formula A):

(Payable Revenue ÷ Total Service Streams) x Your Streams = Per Stream Rate

Which may also be expressed as Formula B:

Payable Revenue x (Your Streams ÷ Total Service Streams) = Your share of revenue

(Formula A and B are also known as “the big pool” in the user-centric or Ethical Pool models.)

Here’s the trick–it’s in the correlation of the rate of increase over time of the numerator and the denominator.  If you focus on any single calculation you won’t see the problem.  You have to calculate the rate of change over time.  Simply put, if the numerator in either Formula A or Formula B increases at a lower rate than the denominator, then the quotient, or the result of the division, will always decline as long as those conditions are met.  That’s why the Streaming Price Bible shows a declining per-stream rate–a contrarian fact among the hoorah from streaming boosters that sticks in the craw.

Services make these accounting calculations monthly for the most part, and they are calculated a bit differently depending on the service.  This is why the Streaming Price Bible has different rates for different services, rates that vary depending on the terms of the contract and also the amount of “Payable Revenue” that the service attributes to the particular sound recordings.

The quotient will also vary depending on the copyright owner’s deal.  If you add downside protection elements such as contractual per stream or per subscriber minimums, then you can cushion the decline.

This is also true of non-recoupable payments (such as direct payments that are deemed to be recoupable but not returnable, or “breakage”).  Nonrecoupable payments are just another form of nominal royalty payable to the copyright owner, and increase the overall payout.  And of course, the biggest nonrecoupable payment is stock which sometimes pays off as we saw with Spotify.  These payments may or may not be shared with the artist.  (See the WIN Fair Digital Deals Pledge.)

So each of the elements of both Formula A and Formula B are a function of other calculations. We’re not going to dive into those other elements too deeply in this post–but we will note that there are some different elements to the formulas depending on the bargaining power of the rights owner, in this case the owner of sound recordings.

So how is it that the per-stream rate declines over time in the Streaming Price Bible?

Putting the Demon in the Denominator

Back to Formula B, you’ll note that the function “Your Streams ÷ Total Service Streams” looks a lot like a market share allocation.  In fact, if the relevant market is limited to the service calculating the revenue share allocation, it is a market share allocation of service revenue by another name.  When you consider that the customary method of calculating streaming royalties across all services is a similar version of Formula B, it may as well be an allocation of the total market on a market share basis.

Note that this is very different from setting a wholesale price for your goods that implies a retail price.  A wholesale price is a function of what you think a consumer would or should pay.  When a service agrees to a minimum per stream or per subscriber rate, they are essentially accepting a price term that behaves like a wholesale price.

For most artists and indie labels, the price is set by your market share of the subscription fees or ad rates that the service thinks the market will bear based on the service’s business goalsnot based on your pricing decision.

Why is this important?  A cynic might say it’s because Internet companies are in the free lunch crowd–they would give everything away for free since their inflated salaries and sky-high rents are paid by venture capitalists who don’t understand a thing about breaking artists and investing in talent.  You know, the kind of people who would give Daniel Ek a million dollar bonus when he hadn’t met his performance targets, stiffed songwriters for years and gotten the company embroiled in multimillion dollar lawsuits.  But had met the only performance target that mattered which was to put some cosmetics on that porker and push it out the door into a public stock offering.  (SPOT F-1 at p. 133: “In February 2018, our board of directors determined to pay Mr. Ek the full $1,000,000 bonus based on the Company’s 2017 performance though certain performance goals were not achieved…”)

But long-term, it’s important because one way that royalties will rise is if the service can only acquire its only product at a higher price.  Or not.  The other way that royalties will rise is if services are required to pay a per-stream rate that is higher than the revenue share rate.  How that increase is passed to the consumer is up to them.  Maybe a move from World Trade Center to Poughkeepsie would help.

The Streaming Price Bible is based on revenue for an indie label that did not have the massive hits we see on Spotify.  In this sense, it is the unvarnished reality of streaming without the negotiated downside protection goodies, unrecoupable or nonreturnable payments, and of course shares of stock.  While some may say the Bible lacks hits, that’s kind of the point–hits mask a thousand sins.  Ask any label accountant.

Will Consumption Eat Your Free Lunch?

Let’s say again: The simple explanation for the longitudinal decline of streaming royalties measured by the Streaming Price Bible is that the rate of change across accounting periods in the “Payable Revenue” must be greater than the rate of change in the total number of streams in order for the per-stream rate to increase–otherwise the per-stream rate will always decrease.  Another way to think of it is that revenue has to increase faster than consumption, or consumption will eat your lunch.

What if you left the formula the same and just increased the revenue being allocated?  Services will probably resist that move.  After all, when artists complain about their per-stream rate, the services often answer that the problem is not with them, it is with the artist’s labels because the services pay hundreds of millions to the labels.

We don’t really have much meaningful control over what goes in the monthly payable revenue number (i.e., the mathematical “dividend” or numerator).  What kinds of revenue should be included?  Here are a few:

–all advertising revenue from all sources
–e-commerce transactions
–bounties or referral fees, including  recoupable or non-refundable guarantees
–sponsorships
–subscription income
–traffic or tariff charges paid by telcos
–revenue from the sale of data

Services will typically deduct “small off the tops” which would include
–VAT or sales tax
–ad commissions paid to unaffiliated third parties (usually subject to a cap)

Indie labels and independent artists may not have the leverage to negotiate some of these revenue elements such as revenue from the sale of data for starters.  Other elements of the revenue calculation for indie labels and artists will also likely not include the downside protections, subscriber target top up fees and the like.

And of course the biggest difference is that indie labels (at least not in the Merlin group who may) typically do not get nonreturnable advances,  nonrecoupable payments, or stock.

Is That All There Is?

Why should we care about all this?  There is a story that is told of negotiations to settle a lawsuit against a well-known pirate site.  One of the venture capitalists backing the pirates told one of the label negotiators that he could make them all richer through an IPO than any settlement they’d ever be able to negotiate.

The label executive asked, lets’ say we did that, but then what happens?  You say we should adapt, but you’re still destroying the industry ecosystem so that there’s nothing left to adapt to.  The most we could make from an IPO would cover our turnover for a year at best.  And we would be dependent on your success, not our artists’ success.

Then what?

 

 

 

 

 

Ethical Props–How Streamers Can Empower Fans on the Path to Sustainability 

[This post first appeared in the MusicTechPolicy Monthly Newsletter, if you’d like future issues, subscribe to email updates for MusicTech.Solutions]

After the one-time pop of Spotify’s public stock offering cash-out, the new reality is going to be increasingly obvious–we’re stuck for at least a generation with trading high margin physical for low-to-no margin streaming royalties.  That stock-fueled sugar high created a near-total dependence on big minimum guarantees and non recoupable payments from streamers–if you could get those payments.  But the bad thing about non-recurring income is that it’s non-recurring. Spotify’s stock price is already testing lower lows near the $110 level, $7 above it’s 52 week low, but $80 below its 52 week high.

Now what?  I’ve heard a lot of discussion about my “Ethical Pool” approach to streaming royalties, but any “user-centric” model isn’t going to fix the low-to-no margin streaming royalty problem by itself.  The streaming hole is dug too deep.   
Strange as it may seem, streamer Tencent from the People’s Republic of China may have started a helpful social trend, and Apple is translating that trend into a business practice. Both companies present a teachable moment and an opportunity for the Ethical Pool’s mutual opt-in by fans and the artists they love in the form of micropayments I will call “Ethical Props”.

There’s three obvious things we know about streaming if we know nothing else:  Everyone who works for Spotify got even richer in their stock market cashout while the overwhelming majority of artists and songwriters on the service languish;  per-stream royalties are pitiful which matters if you don’t get minimum guarantees;  plus streamers lose money because they spend too much on overhead, especially salaries and rent.

There’s a less obvious problem we know but that doesn’t come up very often–streamers don’t empower fans to reward the artists they love, much less the songwriters who write the music it all starts with.  Imagine if fans could actually give money directly to their artists (and sign up for direct communications outside of the service).

But–thanks to inspiration from Tencent’s “virtual gift” feature, artists may have renewed negotiation leverage in actually getting streamers to empower fans to make direct contributions to the artists they love in the form of small “Ethical Prop” payments.  Of course, in order to be entitled to be “ethical” handle, the streaming services–including Tencent–will have to make some changes in their current business practice.

Which should be welcomed by all concerned.  As Sony Music as well as Taylor Swift and Universal Music Group recently demonstrated, ethical business is good business.  Both labels have agreed to pass through to artists a share of each label’s Spotify stock windfall on a non-recoupment basis–we’ll come back to that nonrecoupment part.

Simply put, Tencent allows users (all users, subscription or ad-supported service) to make virtual gifts in the form of micropayments directly to artists they love.  (The feature is actually broader than cash and applies to all content creators, but let’s stay with these socially-driven micropayments to artists or songwriters.)

Tencent, of course, makes serious bank on these system-wide micropayments.  As Jim Cramer noted in “Mad Money” last week:
“Tencent Music is a major part of the micropayment ecosystem because they let you give virtual gifts,” Cramer said. “If you want to tip your favorite blogger with a song, you do it through Tencent Music. In the latest quarter we have numbers for, 9.5 million users spent money on virtual gifts, and these purchases accounted for more than 70 percent of Tencent Music’s revenue.”
And that’s real money.  Tencent actually made this into a selling point in their IPO prospectus:
We are pioneering the way people enjoy online music and music-centric social entertainment services. We have demonstrated that users will pay for personalized, engaging and interactive music experiences. Just as we value our users, we also respect those who create music. This is why we champion copyright protection-because unless content creators are rewarded for their creative work, there won’t be a sustainable music entertainment industry in the long run. Our scale, technology and commitment to copyright protection make us a partner of choice for artists and content owners.
That sounds like these guys read the blog!

But–how to make “music-centric social entertainment services” into the Ethical Props? First, the streamer needs to take a smaller cut and they need to do some “Artist Services” work for their share.  If you want to get paid for artist services, then serve the artist for your payment (to get all antimetabole about it).

Spotify and Apple need to create the infrastructure that invests fans with the power to directly support the artists they love.  This empowerment will become increasingly important as more and more fans get woke with the main driver of the Ethical Pool–fans discovering that the very large lion’s share of the subscription fee they pay goes to music they don’t listen to performed by artists they’d never listen to. This ought to apply to both ad-supported and subscription services.

In addition to the Ethical Prop button, services need to empower fans to connect directly with the artists they love through an email list if the artist has one.  
In the background, the service may facilitate transactions like a “Fulfilled by Amazon” service that generates a 1099K (like Kickstarter) or an Apple in-app purchase.  In fact, the Chinese micropayments reportedly influenced Apple to change its in-app purchase policies, which make a good guideline for putting the “ethical” into an Ethical Prop:
Apps may enable individual users to give a monetary gift to another individual without using in-app purchase, provided that (a) the gift is a completely optional choice by the giver, and (b) 100% of the funds go to the receiver of the gift. However, a gift that is connected to or associated at any point in time with receiving digital content or services must use in-app purchase.

(That’s section 3.2.1(vii) in Apple’s App Store Review Guidelines for those reading along at home.)

Following Apple’s lead, Ethical Props should be given at the option of the fan and 100% of the funds should go to the artist directly (but not in lieu of a royalty).  Because the payment is optional for the fan, micropayments ought not to be taken into account in any rate setting hearing or negotiation.

And here’s where the “nonecoupable” issue returns–these monies should be paid directly each artist who opts-in to the feature.  Sony and Universal learned to leave some on the table–we’ll see how far that goes.  But certainly independent creators should get the benefit of 100% of any Ethical Prop.

On the songwriter side–now that lyrics are so prevalent and even Spotify is adding songwriter credits, it should be pretty simple for the discerning fan to give an Ethical Prop to a credited songwriter if the songwriter opts in to the Ethical Props.

So like the Ethical Pool, the Ethical Prop is bilateral–both fan and artist have to opt into the transaction.  If the streamer wants to provide a service to handle any required income or sales tax reporting (although it’s likely that none of these transactions will be significant enough to trigger a 1099), then that might justify a cut.  Maybe.


Ethical Props present a win-win opportunity for services and all artists that want to break the headlock of hyper-efficient market share distributions on streaming services.  As we all know and Tencent acknowledges, sustainability requires more than a per-stream royalty that starts 2, 3 or even 4 decimal places to the right.

As the Spotify sugar high starts to crash, Ethical Props may provide an important counterpart to the Ethical Pool.

Why Will Spotify’s Stock Price Tank?

Stocks go up, stocks go down, can’t pick a top and can’t pick a bottom.

However–Spotify is a particularly interesting stock for a number of reasons, mostly having to do with the nature of the initial offering.  Remember, Spotify did not offer shares in an “initial public offering,” they used an untried method called a “direct public offering.”

The difference is crucial.  In an IPO, or as it’s more precisely known, a “full commitment underwriting,” the company (or “issuer”) actually raises money through selling new shares of stock to a group of investors, usually banks.  These investors are often called “underwriters”.  In the case of a full commitment underwriting IPO, the company sells shares to an underwriting group (or “syndicate“) and the syndicate then sells those shares to the public after the syndicate decides the valuation of the company and the price of the shares of stock.

This is completely different from the direct public offering.  There are no new shares, there is no syndicate, and the price is set (or was for Spotify) by reference to the price of shares selling in the private market immediately before the public is able to buy–and my bet is that the DPO price was a lot higher than an IPO price would have been.  (Dropbox, for example, priced at $21 and closed at $28.48 on its first day of trading.  Facebook priced at $38, Google at $85, Alibaba $68, Amazon was $18.   All had different valuations, of course.  Spotify priced at $132 using a loophole from the SEC.  And what goes up, must come down.)

So, you may ask, if the issuer doesn’t sell shares to an underwriting syndicate, where do the shares come from?

The shares come from insiders at the company and any other shareholder, employee, record company, other investors already holding shares who want to get out.  All of these insiders have an incentive to keep the share price as high as they can before they get their shares sold to the bigger fool…sorry, I mean to other investors.

According to a puff piece that Spotify’s lawyers conveniently wrote and published at a Harvard Law School meeting (wonder who paid for that), Spotify identified three goals in their DPO:

  • Offer greater liquidity for its existing shareholders [translation: existing shareholders can cash out], without raising capital itself and without the restrictions imposed by standard lock-up agreements

  • Provide unfettered access to all buyers and sellers of its shares, allowing Spotify’s existing shareholders the ability to sell their shares immediately after listing at market prices [this essentially repeats benefit #1]

  • Conduct its listing process with maximum transparency and enable market-driven price discovery

That last one is utter gibberish as the SEC takes care of the transparency through Form S-1 (or F-1 in Spotify’s case as a foreign filer) and Regulation S-K. The first point is really two related but different goals:  lockup agreements bar employees and key holders from dumping their stock for a typical 180 day period.  This is to avoid high employee turnover after a public offering the way we’ve seen at companies like…you know…Spotify.  It’s generally thought that losing key employees is bad for shareholders, so that’s why every mother’s daughter has lock up agreements. It’s also hard to recruit replacements when the insiders are selling, especially if the stock is tanking.

And one can’t help noticing that building a sustainable business model for long-term shareholder value and artist longevity is not on the list.

Anyway…if you look at the following chart, you’ll see some interesting patterns developing over the short history of Spotify’s stock.  I don’t put a lot of trust in chart analysis, but some people do and it is one of the few things we have to rely on in this case because there is so much insider activity.

You’ll notice that there’s something of a “head and shoulders” pattern emerging when the stock reached its high on July 26, 2018 of $196.28.  This pattern is often associated with a move to the downside, sometimes a sharp move to the downside.

Spot 12-17-18

Sure enough, the stock went into a sputtering dive the next day and the dive has continued ever since.  Note that at the high, volume was rising.  The low volume of Spotify stock is another one of the untold stories and is another suggestion of price management in the background.

Once the downside move became apparent, which was about October 10, downward pressure accelerated on rising volume (relatively speaking since volume is low).  A couple weeks later, more sell signals confirmed the downside move.

Spot Projection 12-17-18

One signal that I found significant was the 50 and 100 day moving averages of the stock price crossed to the downside on October 22, which also happened to be the date that the stock traded and closed at $148.54–below $149.01, the closing price on the first day of trading.

Starting with the high at the head and shoulders formation, the stock has more or less collapsed on about a 45 degree downward angle ever since.  Why is that?  Possibly because the stock was priced too high to begin with.  Some people think that SPOT is just reacting to the overall market sell-off.  I don’t think that is true as SPOT has not moved in relation to the market since inception.  SPOT was higher on the market highs and lower on the market lows, so I don’t see the coupling argument at all.

Plus, Spotify announced a $1 billion stock buy back, so the price is rapidly declining in spite of the buyback.  Perhaps if Spotify had made a tender offer for shares at a fixed price, they could have supported the stock more successfully.

Based on the stock’s recent history, it would not be surprising to see SPOT retrace some of its collapse and rise to something in the $120-$130 range by the end of the year.  Then I suspect that it will decline to approximately $95 around the end of January.

After that, we shall see.  Obviously, this is not investment advice, just speculation based on some guesses derived from the chart.  But the chart is relevant because there’s unlikely to be any real change in the company’s financial position in the next six weeks.

Analyst Mark Hake has developed three different scenarios for where Spotify’s stock price will be in 2021:  $125.68, $61.42 and $38.39, but assigns a $114.89 price based on a probability analysis.  About where it is now, in other words.  His post in Seeking Alpha (“Spotify Has A Valuation Problem”) is a must read if you’re interested in financial analysis.

Spotify closed today at $116.50, down $2.17 in after hours trading.

More Evidence of DPO Conflicts: Is Spotify’s Stock Buyback Plan Taking it to the Shorts?

Spotify is experiencing the joys of being a public company–or at least a quasi public company if you count public companies as ones whose shares are actually held by the public as in Mrs. & Mr. America.  But both analysts and investors have to always remember that Spotify did not conduct an IPO in the traditional sense where an underwriting syndicate of bankers bought a block of shares from the company that the syndicate then resold to the public.  This is why Spotify’s recently announced $1 billion stock buy-back program bears closer scrutiny.

Instead they conducted a DPO, a direct public offering which is unusual and radically different than an IPO.  The DPO has an essential conflict–the sellers of shares are insiders in the issuer and have an incentive to keep the stock price high and to manipulate that stock price however they can.  Like through a stock buy back after less than a year of trading, for example.

From a financial markets point of view, that DPO makes almost everything about Spotify’s stock a different analysis than a market traded IPO–including Spotify’s recently announced stock buy back.  Stock buy backs happen all the time, particularly in declining markets.  But what is unusual is for a company that’s still in its first year of operating as a public company whose shares are largely traded by insiders and is a money losing company to take the odd step of using $1 billion of the shareholders money to buy back stock.

Or maybe not so unusual if the shareholders whose money it is are both the sellers of those shares and the beneficiaries of the stock buy back–as they try to find a bigger fool to sell the shares to in the retail market.  Another core problem with DPOs is that you don’t have an independent body setting the opening price as you would with an underwriting syndicate.  DPOs have to get an opening price from somewhere–so Spotify’s pricing problem started with the SEC and NYSE allowing Spotify to price at its last privately traded price (as some shares of Spotify traded in what used to be called a “Rule 4(a)(1)1/2” exemption for resale of restricted stock, now codified in Section 4(a)(7) of the Securities Act by the FAST [Breakfast at Buck’s] Act–a bit of a gloss but OK for our purposes here).

So by letting Spotify use the private market for restricted stock as a proxy for a market price, at a minimum the SEC and the NYSE assume that the rights, preferences and privileges of an unregistered share of Spotify stock are the same as a share of registered SPOT.  They’re not.  They also assume there are no price distortions from the relatively low number of unlegended restricted shares available in the private market.  They also assume that there’s nothing odd about a company like Spotify–staring down relatively slam dunk infringement lawsuits of significant value and in a money-losing business run from 10 floors of the World Trade Center like it was Apple or something–pricing way above the opening prices of Amazon, Facebook, Google and so on.

If that sounds cynical, it really isn’t once you understand the dynamics of a DPO compared to an IPO.  The DPO produces a market effect that is similar to the business model of Larry Ellison’s famous 1999 “HeyIdiot.com” parody of an Internet company:

HEYIDIOT.COM is tightly focused on selling just one product. Elegantly enough, that product is the stock of HEYIDIOT.COM, which will be offered to you for sale on-line at our web site of the same name. Buying the stock is simple, you can buy as much stock as you want with the only rule being that each new purchase must be executed at a successively higher price.  We call it a cash portal.

We’re seeing the result of the DPO come home to roost in Spotifyland which looks something like this:

 

Spotify 11-16-18 Basic
SPOT 11-6-18

After a run up in the stock price–on low volume and with no meaningful news–the stock retraces its steps and suggests its testing lower lows.  It’s hard to say what “price support” there is for a stock that’s had less then a year of trading, but let’s just say that if it broke through $100 to the downside, there would be rending of garments and closer examination of executive compensation unless Spotify executives could continue to blame artists for “high” royalties.

Also note that three out of four of Spotify’s biggest volume days were to the downside, and that the stock has been trading down, essentially, since August.Spotify 11-16-18 Volume

 

We can also assume that at these low trading volumes, the shares have gradually been accumulating in the trading accounts of Mrs. & Mr. America which also means that there are potentially more and more shares available to short sellers–the buy high sell low crowd that I discussed back in March.

short_sell_example

In fact, there are a few November 30 puts in the $115 range already.  Daniel Ek has announced he’ll be selling Spotify shares with a value of about $20 million on a monthly basis for a while.  You have to notice that those board-approved sales are overlapping with the board-approved Spotify stock buy back that will help to support the higher price point while insiders dump their shares.  This is another inherent conflict problem with the whoe DPO concept–but when you have the 1:10 voting power over your board as does Mr. Ek, many things are possible.

It’s nice work for a “cash portal.”