The startups that have called on venture capitalists for funding with a product in hand but no clear strategy on how to make money are legion: Facebook, Twitter, Tumblr, and the list goes on and on. For some it works out. For many others — most of which you’ve never heard of — it doesn’t.
Daniel Ek, co-founder of Spotify, says he took the opposite approach. That’s because he was dealing with the music industry, which had for years battled Napster and other file sharing services for pirating its songs and driving down sales. These executives could be forgiven for refusing to entertain a proposal from yet another music geek with a plan for putting their companies out of business.
You can imagine the conversations.
Young entrepreneur: Dude, we’ll design this website and app where we give away your music free. No DRM. We’ll make it social so users can share their favorite songs with their friends.
Record company executive: How will we make money?
Entrepreneur: We’ll figure it out. First we have to scale.
Executive: Get out of my office.
Instead, Ek and his co-founder, Martin Lorentzon, who started the company in Sweden in 2008, spent two years simultaneously programming thousands of lines of code while striking licensing deals with labels in Europe, including Universal Music Group, Sony BMG, EMI Music, Warner Music Group, and others. Ek credits his “persistence” with getting these deals done, but he also gave them a reason to sign on the dotted line: A classic freemium strategy that involved giving music away free but with ads or ad free with premium subscriptions (priced at £9.99, or about $15.99).
Spotify found almost immediate success. Within 18 months it counted 7 million subscribers in Europe, but it hit a roadblock when it tried to export the service to the US. American labels were skeptical of an advertising-supported model. Edgar Bronfman Jr, chairman of Warner Music, complained in 2010 that free music services didn’t generate enough revenue to make them worth his while.
So Ek turned to Napster co-founder and Silicon Valley bad boy Sean Parker for help in convincing the labels that their interests were aligned with Spotify’s. Parker, through the Founders Fund, which invested a small amount of money, joined Spotify’s board.
“The most brilliant trait that Sean has is, he’s a great partner,” Ek says. “The guy is like just so great at finding these really unique and brilliant people.”
More persistence, and Ek, with Parker’s assistance, finally made it to the US. It was met with pretty universal praise. “Time” named Spotify coming to America as one of the Top 10 Things Time was Thankful for in 2011, and earlier this year it became the No. 2 revenue source for record labels (after Apple iTunes).
And it’s all because Ek had a product and a plan for making the labels money. In other words, he pulled a George Costanza, and did the opposite of what other music-tech entrepreneurs were doing.