Authored by Omid Malekan via Medium.com,
The Wall Street Journal had a piece yesterday exploring Spotify’s struggles to turn a profit, prompting a more philosophical question: why should a platform like Spotify ever make money?
Sure, it offers an effective recommendation algorithm and a nice interface. But the music it streams can be accessed on other platforms – digital music kind of exists everywhere. Presented with a choice, most fans would rather listen to good music on a bad platform than lame music on a cool one.
Entrepreneurs, economists and VCs love the power of online platforms with network effects. This has arguably been The Big Idea of the past twenty years. But how much of a moat can any digital service have if the switching costs are minimal for producers and consumers alike? Fans of Taylor Swift can find her music on virtually every platform and the music coming through their headphones sounds identical. I’m sure there are Swifties who prefer Spotify over YouTube, but if she told them to switch, they would. Music platforms have a hard time differentiating themselves or exercising pricing power because their customers aren’t really their customers.
This issue doesn’t get enough attention, even though it applies to most digital platforms. Uber is so popular that its name has become a verb, but it still can’t turn an operating profit. Rideshare is a commodity. I have multiple apps on my phone and take whichever is more economical. Many drivers do the same. It would be foolish not to, and there are third party apps that help both riders and drivers find the best option.
The stock market obviously disagrees with this assessment and acts like these companies will become reliably profitable any day now.
But Spotify was founded way back in 2006 and Uber is 14 years old. Any day now is getting a little long in the tooth.
Social media platforms have proven the exception to this phenomenon, but for a sinister reason: they’ve engineered their services to be highly addictive.
Companies like Facebook make a lot of money because society as a whole pays the price.
To put it in economic jargon: their network effects lead to a lot of network externalities.
We’ll see how much longer they are allowed to get away with this, especially now that society is waking up to the toxicity of surveillance capitalism.
I’ll spare you the hard sell on why crypto can fix this, in part because the decentralized versions of these online services have yet to find traction.
My suspicion is we still haven’t found the right approach.
What we do know is that taking the existing approach and dropping it onto a blockchain will not work, blockchains-based platforms really have no moats.
We saw this during the last cycle with NFT platforms like OpnSea whose market share collapsed from over 95% to under 20% in the span of a few years.
And why wouldn’t it?
The underlying infrastructure lets users switch platforms with a single click. Competition has been fierce and fees have trended towards zero.
Despite these challenges, I’m confident that decentralized platforms will eventually take over by offering unique value propositions that retain users despite zero switching costs.
I’m not sure what most of those features will be but can speculate on one: ownership. Spotify and Uber wouldn’t care about profitability if their users owned them, and their users would be less likely to switch if they were also management.
Decentralization sounds crazy, until you contemplate the status quo.
Spotify and Uber are two of the most popular digital brands out there. They have 700 million users combined and made $50b in revenues last year. They still can’t make money.
It’s time to try something new.
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