On June 24th, Spotify shares (ticker: SPOT) was downgraded by Evercore analyst Kevin Rippey, who cut the stock to Underperform from In Line.  Since then, analysts are steadily looking past the loss-making Spotify’s $1 billion stock buy back plan.

Rippey says investors are overestimating Spotify’s ability to make money from podcasts and offering services to musicians and are underestimating the competition from other streaming services—particularly in countries outside the U.S. He reduced his price target to $110.

As ARW readers will recall, I have long challenged Spotify’s kvetching about high royalty rates by pointing to the its high overhead, 7 figure performance bonuses to Daniel Ek when he failed to meet the bonus criteria, and other irresponsible behavior by the board that Ek controls.

Spotify’s interest in podcasts is another comical example of Ek as the Easter Bunny of Screw Ups.  He bought a podcasting company that was unionized.  Sheer genius.  Why did he buy them?  Some people think it’s because podcasts were another form of user-generated content where people work for free in exchange for hot meals…no, in exchange for exposure bucks.

Apple is busy paying for podcasts according to Newsmax:

Apple Inc. plans to fund original podcasts that would be exclusive to its audio service, according to people familiar with the matter, increasing its investment in the industry to keep competitors Spotify and Stitcher at bay.

Executives at the company have reached out to media companies and their representatives to discuss buying exclusive rights to podcasts, according to the people, who asked not to be identified because the conversations are preliminary. Apple has yet to outline a clear strategy, but has said it plans to pursue the kind of deals it didn’t make before.

Apple all but invented the podcasting business with the creation of a network that collects thousands of podcasts from across the internet in a feed on people’s phones, smartwatches and computers. The Apple Podcast app still accounts for anywhere from 50% to 70% of listening for most podcasts, according to industry executives.

So Spotify’s law fare against Apple in Europe should come as no surprise (for more on that subject see the “Spotify Untold” corporate bio book).  What this comes down to is that once again, Apple understands its audience and what would delight them where Spotify wants to build them a faster horse (or at least a cheaper one).

Meanwhile, Spotify is commoditizing music into a “playlist friendly” environment based on your mood rather than being artist driven.  Why?  One possible reason is the psychographic research of Michael Kosinski, whose work formed the basis for techniques honed by Cambridge Analytica and the Internet Research Agency you hear so much about (although it must be said the Kosinski did not work for either of those outfits–no he works as a professor at…you guessed it…Stanford).  See his paper The Song Is You: Preferences for Musical  Attribute Dimensions Reflect Personality, available at the Leland Stanford Google University Business School.

The more insightful analysts are represented by Mr. Rippey, who seems to have a good grasp on Spotify’s business and sees through all the bright and shiny objects they want you to focus on as reported by Barrons (emphasis mine):

Rippey says Wall Street’s expectations assume that either the company will come out way ahead in negotiations with the music labels that control the vast majority of the content that Spotify streams, or that it will make a bundle of money from services that previously accounted for almost none of its income.

Now that the sugar high of the Spotify stock has passed through the system and artists either are happy or not happy with their share of the proceeds–which will be hitting royalty statements right about September 30–labels are now faced with a  second act, and that second act likely will require a bigger royalty check–not a smaller one.

To achieve Wall Street’s targets for gross profit, Spotify would either need to take a larger cut of proceeds from each song stream [also called a lower royalty to artists and songwriters] or generate as much as $650 million from “ancillary” areas like Spotify for Artists and podcasts by 2022—areas the company doesn’t make much money on today, Rippey says. Spotify for Artists offers data for musicians to track which songs are performing well and in which areas, among other benefits. [Which is OK if Spotify for Artists is free, I guess–since we sent them the fans–but my bet is that no one is going to pay for it, certainly no one with a modicum of leverage.]  Spotify makes money from ads on podcasts it owns and has also begun to launch exclusive podcasts that listeners can only get on Spotify.  [Spotify has never had a hit that originated entirely within Spotify.  When it does, check this space.]

Given that music crosses over multiple cultures but that Spotify brings a decidedly European and Anglo/American creative viewpoint to its distribution platform, it is unlikely to be able to fight all fights in all markets and be all things to all music fans in the some 60 countries it operates in.  This is particularly true in countries that actually value their culture and creators.

Spotify is the global leader in streaming music, but Rippey thinks that Wall Street overestimates the company’s power in local markets. “In emerging markets like India, local players dominate the market,” he writes, noting that Jio and Gaana were the market leaders there in the first quarter. “This fragmentation leads to an understatement of how competitive streaming music is globally.” Similar dynamics play out in countries like Indonesia too.

Those are some good concrete reasons why Rippey’s price target is $110, which I think is still about $50 too high because of Spotify’s C team management.  And also because the other analysts are all guiding too high in the Overton Window:

One major factor that all the analysts overlook, like they missed the subprime crisis, is buried in the commentary that never gets picked up in the Wall Street publications–the fact that artists can’t begin to make a living from streaming the way they could from the CDs that streaming is replacing.  This sudden contraction hurts artists at all stages of development.  To put it in terms that Wall Street might understand more readily, this is a supply chain issue.  The chain will have no supply if unsustainable economics expands which it seems like it will.

There’s about 5% of the tracks that make 90% of the revenue from Spotify-type streamers.  Fans are paying subscriptions every month for music they don’t listen to performed by artists they don’t like.  When that idea starts to permeate the Federal Trade Commission and the Department of Justice, who knows what may happen.  This will be true of podcasters, too–the unionized podcasters affiliated with the Writers Guild of America.  I’m looking forward to that collective bargaining experience.

But for now, it’s only a matter of time before artists who are not in that 5% start to jump ship.  Analysts should be asking, who can encourage them to jump and what will happen to the ship they jump from if there were some disruption below decks in the royalty rates?