Alphabet (GOOGL 0.68%) (GOOG 0.66%), the parent company of the search giant Google, has delivered remarkable financial results over the last two decades and today sits at a market cap of roughly $1.9 trillion. While there are certainly a number of factors that have helped Alphabet reach this rare size, the company's general recipe for success has consisted of pairing eyeballs with unique targeting capabilities for advertisers.
Though Spotify (SPOT 0.34%) is only a fraction of Alphabet's size, the audio-streaming giant is trying to replicate that same model, only for ears instead of eyes. Let's see whether or not the strategy can pay off.
Spotify's advertising model
Spotify first got its start by pioneering the "freemium" model for the music industry. After meeting some initial resistance from music labels about an ad-supported experience, Spotify focused most of its efforts on driving subscriptions. However, over the last couple of years, that focus has begun to change.
With the recent push into alternative forms of audio such as podcasts, audiobooks, live chats, and more, the company's advertising segment is seeing an increasing focus from Spotify's management team. CEO Daniel Ek was even quite candid about this on Spotify's second-quarter conference call when he said, "Admittedly, this is an area where I previously didn't spend much time, but it's become impossible to ignore."
By the end of this year, Spotify expects to surpass 400 million total monthly active users (MAUs). In order to capitalize on all those ears, Spotify has built out a comprehensive marketplace for advertisers known as the Spotify Audience Network (SPAN).
SPAN allows advertisers of any size to promote their message across different forms of audio while targeting individual users based on their listening habits -- something traditional radio can't offer. Although the advertising inventory on SPAN is currently limited to podcasts or individual slots in between songs, Spotify has announced plans to add audiobooks to its platform which could serve as yet another audio format for advertisers.
For a long time, measuring the effectiveness of advertising campaigns was difficult. There was even a popular saying in marketing that "half of advertising spend is wasted, the trouble is, you don't know which half."
Fortunately, today this problem is muted. Thanks to companies like Google, not only can advertisers reach a massive audience, but they can also assess the performance of their ad campaigns due to analytics. Audio-based ads, however, haven't made nearly as much headway in terms of measurability.
To help address this pain point, last week, Spotify began rolling out call-to-action cards for podcast ads. Now, when advertisers run a podcast ad campaign using the Spotify Audience Network, they can include a customizable interactive pop-up with phrases like "buy now" or "download."
For example, let's say Ulta Beauty was running a campaign with a 25% discount and wanted to target females between the ages of 20 and 30 who are in their car and like listening to dating-related podcasts. Spotify could provide that. And on top of it, Ulta can now add a call-to-action card with the phrase "Get Coupon." This new interactive feature should not only reduce friction for listeners but should also help advertisers assess the effectiveness of their ad spending.
Can Spotify become Google?
Although comparing any company to Google feels discrediting to the remarkable business Google has built over the years, the value that Spotify provides to advertisers in audio bears a passing resemblance to what companies like Alphabet or Meta Platforms (META 0.50%) were able to do for the digital advertising space.
As Spotify continues to build out more functionality and include new types of audio into its advertising network, investors should expect to see the ad segment grow quickly as a percentage of Spotify's overall revenue. Last quarter, advertising only accounted for 13%, but Ek stated that he believes it could potentially comprise up to 40% or more over the next five to 10 years.