As many of you are aware, we announced new limits for US listeners in October. We’re not happy about having to establish these limits, and we wouldn’t be taking this path if we had another option. In this post, I’d like to go a bit deeper in explaining our decision, providing more context and detailing our underlying economics, to ensure our listeners have a crystal clear understanding of why we’re taking the tack we’ve pursued.

So it began

My original conception of 8tracks dates back nearly 20 years, from the time I lived in London and enjoyed its rich, diverse electronic music culture. Inspired the culture’s focus on the DJ, I envisioned a music-based social network that democratized the role of the DJ, allowing anyone who loves music to curate playlists for others who hadn’t the knowledge or time. My belief was that music was most effectively “packaged” by people (not algorithms).

Fast-forward 10 years, I found myself bootstrapping 8tracks on a nights-and-weekends basis with a loan against my 401(k) plan, eventually launching the service on August 8th, 2008. We saw good early take-up and, by the end of 2010, began to get interest from investors. Three years after launch, on the back of a $1.2m seed round, we hired our first employees. We achieved profitability 18 months later thanks to our status as a Small Webcaster, which allowed us to pay royalties on a percentage of our revenues (rather than on a per-play basis that ignores the level of revenue generated).

The challenges of streaming music

Despite encouraging growth and even profitability, it proved challenging to raise a significant “Series A” round from traditional investors. Top venture capital firms seek startups in less competitive sectors, with more favorable economics, which they believe are on track to be valued at over $1 billion. We grew out of Small Webcaster status in 2014 and, as our royalty burden grew, we became unprofitable once again.

We’ve long believed in the advertising model, as radio — historically and still the primary way new music is both promoted and discovered — should be free to allow artists to reach the widest possible audience. Our devoted community has grown around this free, ad-supported model for years. Unfortunately, our royalty rates in the US grew by yet another 20%+ in 2016. Moreover, we saw a decline in our audience during 2015 and 2016, making the advertising model more challenging (more on that in a bit). And our crowdfunding round this year, while a great showing of support from our community, has ended up coming in at a much slower rate, and at a lower amount, than we’d anticipated based on our initial survey of the community in early 2016.

Bottom line, the royalty rates we pay are too high to support our costs with a free, ad-based listening model in the US. I know that some listeners are genuinely frustrated by the limits, but it’s important to realize that no digital music service is generating a profit. Larger services have raised billions to fund continued losses or may simply use music as a “loss leader” to derive revenue through another business line.

By the numbers

The simplest way to demonstrate our range of options is to look at the math. In the US, the sound recording royalty we pay under the compulsory license is $0.0017 per ad-supported stream, nearly 19X the equivalent rate in Canada (which is why an ad-based model on a medium-sized platform remains viable there). The economics of music streaming are typically evaluated by denominating revenues and expenses on an hourly — or “per 1,000 hour” — basis. Our average track length is 4 minutes, so multiplying $0.0017 x 15 equals $0.0255. The royalty cost per 1,000 hours (“CPM”) is thus $25.50, and this represents most of the direct cost “hurdle” we have to recover through advertising and subscription revenues.

In its most recent quarterly results, Pandora generated $58.10 in advertising revenue per 1,000 hours streamed (“RPM”). Pandora is able to cover its sound recording royalty CPM more than twice over because it reaches 78m listeners per month (making it a one-stop-shop for a brand or agency that wants to reach people who listen to music) and employs 100s of people in the ad sales function (more than ½ its team). In comparison, 8tracks’ smaller audience (4m) and sales team (7 people until our layoffs on October 4th) allowed us to generate an average RPM over the last year (through September) of $24.28 — roughly the same level as our royalty CPM.

Sufficient funding would allow us to properly invest in engineering, product and marketing, which would help us attract and retain listeners and thus serve a larger audience. A larger audience, in turn, makes us more attractive to brands and agencies, which typically wish to buy advertising on a few larger services within a particular category (e.g. music) rather than apportion their marketing budget among many services.

Based on extensive modeling, we concluded at the outset of our crowdfunding round that at least $5m but ideally $10m would allow us to aggressively pursue the growth necessary to make an ad-based model work, and we filed with the SEC  to raise up to $11m in June. However, we’ve only closed (to our bank account) $1.5m in funding over the 6 months since the launch of crowdfunding. Another $1m of “confirmed” investment has yet to be be received from crowdfunding investors or SeedInvest, and we plan to continue crowdfunding on another platform in 2017.

Our plan for the future

To make the company sustainable at our current levels of audience and funding, we have to focus on near-term sustainability over mid-term audience growth. This requires that we:

1. Reduce fixed costs (primarily payroll)
2. Increase RPM by shifting most of our US revenue mix from ads to subscriptions
3. Reduce the streaming (and thus royalties) associated with ad-based listening in the US

To reduce fixed costs, we’ve decreased the size of our team. When we filed with the SEC for our crowdfunding round in June, we engaged 26 people as employees or contractors. After 2 rounds of layoffs, we’ve pared back our team to 10 people. As a result of these headcount reductions and other cost-cutting measures, our largely fixed, non-royalty expenses in December (e.g. payroll, taxes, hosting, streaming, office rent, software licenses) will be nearly one-half the monthly level we incurred prior to our first set of cost reductions in March.

To encourage free listeners to subscribe, and to reduce the royalties associated with ad-based listening, we introduced listening limits earlier this month. The additional revenue impact of subscribers is significant: while the average revenue per ad-based listener per month has historically hovered around $0.12, that figure for a subscriber is $2.99 (based on the introductory pricing available this month), a roughly 25X differential. But the listening caps also set a ceiling on the royalty costs associated with free, ad-supported listening, where the associated advertising RPM falls short of the royalty CPM. To ensure we get these limits right, we’re testing several limit tiers and will conclude on the best approach over the next week. The weekly listening limit will help 8tracks return to sustainable economics in 2017.

While we’ll settle on a largely standard listening limit, we’re also rewarding DJs who create excellent playlists with listening time bonuses. We’re also evaluating the impact of these limits on brand-new registrants and we’ll likely offer a higher initial limit for these listeners to fully appreciate the depth and personality of the 8tracks platform.

While we’re not happy about having to introduce limits on free listening, we’re thrilled to be laying the groundwork to offer subscribers great new features…

The silver lining

On a positive note, we have nearly wrapped our deal with the first of the major labels. A number of setbacks over the last year — SoundCloud removal, cutoff of streaming outside the US and Canada, and tightening of skip limits — have been required to make progress and stay in the good graces of the record labels. And now 8tracks is poised to see the upside.

Under the terms of the deal, we’ll be able to provide DJs with direct access to the label’s catalog when creating a playlist, without requiring an upload. Some music will be available without a subscription while other music will require it. In addition, the deal allows subscribers to skip tracks more frequently and save playlists for offline listening; both features will be introduced once we’ve a critical mass of direct deals to support these features. Direct deals also lay the groundwork for making 8tracks available outside the US and Canada.

But, even today, an 8tracks Plus upgrade does more than just remove the weekly listening limit:

• Ad-free listening, always
• No interruptions between playlists
• Animated gifs for your playlist artwork
• A flashy badge to show off to your friends and admirers

We’re excited by the number of listeners who’ve already shown their support and signed up to 8tracks Plus in the past 10 days, since the introduction of the listening limits. We want the 8tracks platform to continue to provide a unique music discovery experience for people who care about music, and we’re grateful for those who can help us make this transition to a new era for independent radio.