The archive · Consumer Apps · Financial decision · 2016
Spotify took $1B of penalty-laden debt rather than a down round to fight Apple Music
In March 2016 Spotify raised $1B in escalating convertible debt to out-fight Apple Music, betting growth now beat protecting its $8.5B valuation.
Spotify
What the business is
Spotify runs an on-demand music streaming service with free and paid tiers; in early 2016 it was a private company valued at $8.5B, racing Apple Music for subscribers worldwide.
Starting capital：$1B in convertible debt from TPG, Dragoneer and clients of Goldman Sachs, on top of roughly €570M in cash a source said Spotify still held; its last valuation, $8.5B, was set in June 2015.
How it started
By March 2016 Spotify was in a race it believed it could not afford to lose: on-demand streaming was becoming how people consume music, and whoever signed up subscribers fastest would keep their data and network effects for a long time. Its rival Apple, which the article calls the most well-funded company in history, was spending on consumer education, artist exclusives and Apple Music, and Spotify judged it needed comparable fuel.
What happened
On 2016-03-29 Spotify confirmed it had raised $1B in convertible debt from TPG, Dragoneer and clients of Goldman Sachs. The terms were aggressive: lenders convert at a 20% discount to the eventual IPO price, the discount grows 2.5% every six months after a year without an IPO, interest starts at 5% and steps up 1% every six months toward a 10% cap, and TPG and Dragoneer can sell 90 days after listing, before employees' 180-day lockup ends. A source familiar with Spotify's finances said the company still held about €570M in the bank, so the raise was for offense: growth, marketing and possible acquisitions such as SoundCloud or Pandora, not survival.
No ending yet — it is still running.
Background
On 2016-03-29 Spotify confirmed it had raised $1B in convertible debt from TPG, Dragoneer and clients of Goldman Sachs, in a deal first reported by the Wall Street Journal, with the money earmarked for growth and marketing. The company chose debt over equity because an equity round at a lower price than the $8.5B valuation it set in June 2015 would signal a down round and hand its rival Apple a PR victory.
Those terms were steep: TPG and Dragoneer can convert at a 20% discount to the eventual IPO price, the discount rises 2.5% every six months after a year without an IPO, interest starts at 5% and climbs 1% every six months to a 10% cap, and the lenders can sell 90 days after listing while employees wait 180. A source said Spotify still held about €570M in the bank, so the money was for offense: advertising to educate consumers about streaming, exclusive artist deals, and possible acquisitions of SoundCloud or Pandora.
The rationale was scale: on-demand streaming was inevitable, and whoever signed up subscribers fastest would earn off their data and network effects for years. Competing with Apple, which TechCrunch called the most well-funded company in history, meant matching its spending power, and Spotify judged the risk of losing the race to be worse than the risk of the debt. The deal drew 292 points and 226 comments on Hacker News the same day, with commenters debating whether the terms effectively forced Spotify into a fast IPO.
What has to be true
- On-demand streaming looked like a winner-take-most race: whoever signed subscribers fastest would hold the data and network-effect advantage for a long time, making delay costlier than debt penalties.
- Debt avoided the down-round signal: an equity raise below the $8.5B June-2015 valuation would advertise weakness to customers, artists and Apple at the exact moment Spotify needed to look strong.
- The money was for offense, not survival: with about €570M in the bank, the raise funded marketing, artist exclusives and possible acquisitions such as SoundCloud or Pandora.
- Apple was the most well-funded company in history, so Spotify reasoned it needed comparable firepower even at escalating, loan-shark-style terms.
What can be applied
In a category-defining race, founders take brutal terms when losing looks costlier: Spotify borrowed on escalating IPO penalties since a down round signals weakness and delay widens the discount.
Aftermath
As of 2016-03-29 Spotify was still live and privately held, with the $1B convertible raise just announced. TPG said the financing gave Spotify the strategic resources to strengthen its leadership position, and a source familiar with its finances said it held about €570M in cash, so the capital was for growth, marketing and acquisitions rather than survival. The deal gave Spotify a year to go public before the lenders' 20% conversion discount began growing by 2.5% every six months; the HN thread debated whether the terms forced an IPO Spotify might otherwise delay.
Sources
- Spotify raises $1 billion in debt with devilish terms to fight Apple Music
- HN discussion: Spotify raises $1B in debt with devilish terms to fight Apple Music
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