Eight years ago, Alibaba (NYSE:BABA) bought the streaming music platform Xiami to expand its digital media business. But Xiami never gained much momentum against its larger rivals, and Alibaba quietly killed off the app earlier this month. It replaced it with a smaller platform called Conch Music, which will mainly serve as a copyright administration and distribution service for musicians.

Xiami's demise might seem like a minor setback compared to Alibaba's looming antitrust issues, but it marks the loss of a major growth market to Tencent Music (NYSE:TME), China's top streaming music company. Let's see why Xiami flopped, and what its failure means for Alibaba.

A young woman listens to music on her headphones.

Image source: Getty Images.

Why Xiami failed to become the "Spotify of China"

Xiami, which was founded in 2008, initially carved out a niche with its sleek interface and support for independent musicians.

In 2015, Alibaba merged Xiami with another streaming music platform, Alibaba Planet (formerly known as Tiantian Fine) under a new division called AliMusic. Alibaba hired two industry veterans to lead AliMusic and "creatively disrupt and catalyze the music industry," but it never got a chance to become the "Spotify (NYSE:SPOT) of China."

Instead, Tencent Music -- which started as a joint venture between Tencent (OTC:TCEHY) and Spotify -- beat Alibaba to the punch by acquiring a majority stake in China Music Corp., which owned two of the country's largest streaming platforms, Kugo and Kuwou, in 2016.

Tencent merged those two apps with its own streaming platform, QQ Music, under the Tencent Music umbrella, which consolidated roughly three-quarters of China's streaming music market.

A young woman listens to music on her phone.

Image source: Getty Images.

Tencent Music subsequently acquired stakes in two of the big three record labels, Universal Music Group and Warner Music, and gained the third one -- Sony (NYSE:SONY) Music -- as a major investor. Those deals likely enabled Tencent Music to secure more exclusive content and lower licensing fees than its rivals.

Tencent Music's massive portfolio also allowed it to sub-license its content to its smaller competitors, including Xiami, NetEase (NASDAQ:NTES) Cloud Music, and Baidu (NASDAQ:BIDU) Music.

That business model sparked an antitrust probe in early 2019 after competitors complained about its high sub-licensing fees, but the probe was suspended about a year later after Tencent Music lowered some of those fees.

Tencent Music continued to dominate the market last year, as NetEase Cloud Music remained a distant runner-up. Xiami's market share dipped below 2%, which explains why Alibaba finally pulled the plug this year. Instead of becoming China's Spotify, Xiami became the Chinese counterpart of Tidal -- a niche streaming app that never stood a chance against its larger rivals.

Will Xiami's demise impact Alibaba?

Xiami was part of Alibaba's Digital Media and Entertainment unit, which also houses its streaming video platform Youku Tudou, its film production unit Alibaba Pictures, its mobile game publisher Lingxi Games, and UC Web, a software subsidiary that develops its web browser, news app, and mobile search engine.

Alibaba doesn't break down the Digital Media and Entertainment segment's revenue or profits by division, but it's been deeply unprofitable over the past few years.

Period

FY 2018

FY 2019

FY 2020

9M 2021

Revenue

19.6 billion

24.1 billion

26.9 billion

23.1 billion

Adjusted EBITA

(8.3 billion)

(15.8 billion)

(11.1 billion)

(3.4 billion)

RMB terms. Data source: Alibaba.

However, the division only generated 4% of Alibaba's revenue in the first nine months of 2020. Alibaba also easily offset the segment's adjusted EBITA loss with the profits at its core commerce business, which rose 19% to 163.8 billion RMB ($25.2 billion) during the same period. Xiami likely represented a tiny sliver of that business, so its demise probably won't significantly throttle the unit's growth.

Alibaba also moved Lingxi Games, which has been gaining steam with its hit Romance of the Three Kingdoms franchise, from the experimental Innovation Initiatives segment to the Digital Media and Entertainment segment at the start of fiscal 2021. That shift could easily offset the loss of Xiami.

The bottom line

Alibaba's investors should focus on three things right now: the growth of its core commerce business, which generates most of its revenue and all of its profits; the narrowing losses at its cloud segment; and its antitrust headwinds.

By comparison, the death of Xiami will likely just be a footnote in Alibaba's history. However, it also represents a missed opportunity for Alibaba to expand its digital ecosystem, and its demise will likely send its remaining listeners to Tencent Music and NetEase Cloud Music.

 
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.