Using the information provided by the case, particularly in the Spotifys section Valuation, will carry out a valuation of the company and its shares using the method Discounted Cash Flow (DFC). They can use the DFC model (template) used for the Facebook Inc. IPO case. It is not necessary to use the items: Excess cash; Cost of equity options. They will use the 2017 figures as the base year (Revenues: 4,090) and will estimate the flow of Cash (Free Cash Flow) for the years 2018 to 2027. Below, the source of the data they will use for the DCF:

Account / Item Section and / or Spotify case page Revenue (2017) Page 5

Account	Item Section or Page
Revenue (2017)	Page 5
Revenue Growth EBIT Margin Tax Rate CAPEX- DEP+ WC Shares Outstanding	Page 5 and 6 Exhibit 10: Page 17 Page 6 Exhibit 10: Page 17 Page 6

Cost F Capital
Risk Free Rate	2.85%
Beta	1.15
Market Risk Premium (MRP)	5.%
Ke (Cost of Equity)	Rf + Beta x MRP
We (proportion of equity)	1.
Weighted average cost of capital (WACC)
Growth Rate	3.%

Show all computations performed in an Excel spreadsheet (Excel Spreadsheet).

7. Spotify company update to. What happened to the value of Spotify's shares over the next three (3) six (6) months after the Direct Listing? b. What happened to the company and the value of its shares during 2019? c. What happened to the company and the value of its shares during 2020?

Page 3 9B18N006 sound quality was average, and listeners could not access songs offline) and advertising content interspersed between songs. The premium service was priced at $9.99 a month ($5.00 for students), had higher functionality, and did not contain advertising. This premium service also allowed users to listen to songs offline (1.c., to save the songs to their devices) and had enhanced sound quality, with song bitrates increased to 320 kilobits per second." Within the premium service was a family option for up to five members of the same household, priced at $14.99 a month.' Spotify paid out 70 per cent of its revenues to copyright holders; principally, the big record labels. Its focus on negotiating and establishing a system for royalty payments set it apart from its major competitors, such as Grooveshark, and allowed it to avoid infringement lawsuits. However, paying out the majority of its revenues in royalties meant that the firm had to continually seek capital as it grew (see Exhibit 3) and that it had never posted a profit. By September 2016, Spotify had paid out a cumulative total of $5 billion in royalties to rights holders, and in June 2017, it announced plans to pay more than $2 billion in guaranteed royalties over the next two years." Acquisitions, Funding, and Financial Performance In March 2014, Spotify purchased The Echo Nest Corporation, a music intelligence firm, for 49.7 million. Echo Nest's capabilities included understanding how users accessed music: it had developed software tools to curate and drive music discovery for users. Other firms Spotify acquired between 2013 and 2017 included Soundtrap AB, Niland API, Mediachain, MightyTV, Sonalytic, CrowdAlbum, Seed Scientific, Tunigo, Preact, and Cord Project Inc., each for an undisclosed sum. 21 These acquired firms focused mainly on technology that identified songs and their creators (or rights holders), blockchain data solutions that connected apps to media," and software that created better- quality personalized song recommendations. On March 29, 2016, Spotify announced it was raising $1 billion in convertible debt from a group of investors including the private equity firm TPG, the hedge fund Dragoneer Investment Group LLC, and clients of the Goldman Sachs Group Inc. The annual interest payment on the debt would be 5 per cent per year and would increase by one percentage point every six months until Spotify went public or the rate reached 10 per cent, whichever came first. In addition, the debt was convertible into equity at a 20 per cent discount to Spotify's share price if an IPO were held within a year of the closing of the deal. The discount would continue to increase by 2.5 percentage points every six months after that initial year. Spotify added the $1 billion to its $600 million in cash on hand. Prior to raising this current round of convertible debt, Spotify had raised $1 billion from investors such as Founders Fund; Accel Partners; Technology Crossover Ventures; and Kleiner, Perkins, Caufield and Byers. 24 In December 2017, private trades in Spotify stock valued the firm at above $19 billion. This was an increase from the $16 billion valuation accorded to Spotify in the fall of 2017. Further, in early December 2017, Tencent Music Entertainment, a subsidiary of the Chinese tech giant Tencent, purchased stock in the firm, valuing Spotify at $20 billion. Some of the Spotify shares in the transaction came from Spotify's convertible debt placement: TPG and Dragoneer were allowed to convert their debt into equity at a $10 billion valuation and then sell it to Tencent at a $20 billion valuation. The amount of debt converted was not made public.25 According to Spotify's annual income statements, balance sheets, cash flow statements, and segment information (see Exhibits 4-7), the company generated revenues of 4,090 million in 2017 and had a net loss of 1,233 million. Its revenues had grown 52.2 per cent, from 1,940 in 2015 to 2,952 in 2016, and Page 6 9B18N006 Page 7 9B18N006 2025, & per cent in 2026, and 5 per cent in 2027. She estimated that Spotify's annual "steady-state" growth rate beyond the next 10 years would be 3 per cent, but she wanted to test a growth rate of 5 per cent as part of her sensitivity analysis. To determine a discount rate for her analysis, Wang assumed a market risk premium of 5 per cent. Because Spotify was not yet being publicly traded, she compiled data on peer firms to determine an appropriate beta (see Exhibit 9). She noted that Spotify did not have any outstanding interest-bearing debt. Given tax-loss carryforwards, she assumed Spotify would not pay any taxes through 2022 and would then face a 25 per cent tax rate. She assumed there were 178.11 million shares outstanding. Among other assumptions (see Exhibit 10), for simplicity, she assumed a valuation date of December 31, 2017 for discounting purposes. Wang wondered whether Spotify's direct listing was simply a unique occurrence or whether this IPO might also disrupt the traditional underwriting process, just as Spotify had disrupted the music industry. More immediately, she also wondered what would happen in the short term. Stephen Gandel, writing for Bloomberg, captured investors' uncertainty about how Spotify's shares might trade on its first day when he said, "The shares could plunge, soar, or soar and then plunge, or plunge and soar, or not trade at all because of a mismatch between buyers and sellers. 50 Early on April 3, 2018, the designated market maker on the NYSE, Citadel Securities LLC, set the "reference price for Spotify's direct listing at $132. In a traditional IPO, the reference price was the offering price, but in the case of a direct listing, Citadel selected a reference price based on recent private market transactions and independent valuations (see Exhibit 8). Wang settled down in front of her computer at 9:30 a.m., contemplating whether to place an order. Market clearing usually happened fairly quickly, so she knew she only had a bit of time to move ahead if she hoped to get in on the first clearing trade of the day. Given the size of the company and the novelty of the listing process, she suspected market clearing might take longer than expected. By 10:30 a.m., trading had not opened but Citadel Securities had posted an initial bid-ask range of $145-$155. A little after 11:00 a.m., the range moved up to $150-$160, suggesting that demand was strong. Now Wang wondered whether she should jump in or stay on the sidelines. Economic and Market Conditions The U.S. economy recorded real gross domestic product growth of 2.6 per cent in the fourth quarter of 2017, down from the third-quarter 2017 growth of 3.2 per cent." The Economist Intelligence Unit forecast growth for the U.S. economy in 2018 and 2019 of 2.3 per cent a year. In January 2018, the Federal Reserve kept its target federal funds rate unchanged at 1.251.50 per cent. This move had been expected by the market; pundits expected the Federal Reserve to continue increasing the federal funds rate as inflation rose." In late March 2018, a 10-year U.S. government treasury bond was yielding 2.85 per cent. For comparison, the yields for the other Treasury bonds were follows: 1.71 per cent for one month; 1.79 per cent for three months; 1.94 per cent for six months; 2.06 per cent for one year; 2.33 per cent for two years; and 2.64 per cent for five years." In 2017, the Dow Jones Industrial Average had its best-performing year since 2013, advancing by 25 per cent. The Standard and Poor's (S&P) 500 index gained 19 per cent, and the Nasdaq Stock Market (NASDAQ) gained 28 per cent." A pull-back in stocks in early February 2018 saw the Dow Jones briefly fall by more than 10 per cent from its high. In late March 2018, the Dow Jones had a price-to- earnings (P/E) ratio of 25.2 versus 21.1 a year earlier. It had a dividend yield of 2.24 per cent versus 2.36 a year earlier. The S&P 500 had a P/E ratio of 24.9 versus 24.5 a year earlier and a dividend yield of 1.93 versus 1.97 a year earlier.The Chicago Board Options Exchange (CBOE) Volatility Index (VIX), a measure of anticipated market volatility, spiked from a muted level of below 10 at the beginning of 2018 to over 37 on February 5, before receding to just below 20 in late March." In 2017, there had been a global rebound in IPO activity, and 374 IPOs had raised $141.4 billion, up from 268 IPOs and $106.3 billion in 2016. IPO activity had yet to reach the highs of 2014, when $238.4 billion was raised from 413 issues. However, on March 23, 2018, file-sharing service Dropbox Inc. went public and saw its first-day share price increase by 36 per cent on the same day that the S&P 500 dropped 2 per cent and both Facebook and Amazon fell by over 3 per cent." In 2017, Snap Inc., which owned the popular social media app Snapchat, surged 44 per cent above its $17 listing price in the first day of trading, but it had struggled since July of that year to trade above the listing price. THE INVESTMENT DECISION The direct-listing date had arrived, and it was decision time for Wang. She was still uncertain about whether her fund should invest in Spotify, particularly given the recent market turmoil. She needed to be comfortable that she would be buying in at a fair price, and she also wondered what the investment horizon should be. Page 4 9B18N006 Page 5 9B18N006 another 38.6 per cent from 2016 to 2017. Its net loss had grown 134.3 per cent, from 230 million in 2015 to 539 million in 2016, and another 129.1 per cent from 2016 to 2017. Disputes and Critics In October 2014, Taylor Swift's album 1989 was missing from Spotify's playlist, and Swift publicly removed the rest of her song catalogue in November 2014. She stated, [All I can say is that music is changing so quickly, and the landscape of the music industry itself is changing so quickly, that everything new, like Spotify, all feels to me a bit like a grand experiment. And I'm not willing to contribute my life's work to an experiment that I don't feel fairly compensates the writers, producers, artists, and creators of this music. And I just don't agree with perpetuating the perception that music has no value and should be free. Spotify playfully responded with a promoted playlist entitled "What to Play While Taylor's Away 2 By June 2017, Swift, seemingly interested in earning some of the royalties being paid to music streaming artists, put her full playlist back on Spotify. A member of another band, Radiohead, had announced in 2013 that I feel like as musicians we need to fight the Spotify thing," and the band kept its music off of the site. But Radiohead relented, and its music was on Spotify by mid-2016." In late December 2017, Spotify was sued by Wixen Music Publishing Inc. (Wixen). Wixen was alleging that Spotify was using thousands of songs without a license and without compensating the music publisher and was seeking $1.6 billion in damages-or $150,000 per song. According to Wixen, while Spotify had signed deals with the music labels to acquire rights to sound recordings of songs, it had failed to acquire the rights for the song compositions. The Wixen lawsuit would be the fourth outstanding lawsuit against Spotify, and the biggest. Others, by songwriter Bob Gaudio and Bluewater Music Services Corporation, collectively represented a few thousand song compositions and, potentially, hundreds of millions of dollars in damages if the maximum of $150,000 for statutory damages were awarded. Spotify had already settled one lawsuit alleging song composition infringement. In May 2017, Spotify paid $43 million to settle a class-action lawsuit initiated by a group of songwriters who had accused the streaming service of using their songs without their permission and failing to pay royalties on the music. There were potentially tens of millions of copyrighted song compositions. In statements it made to the United States Copyright Office, Spotify indicated that it was attempting to locate and identify the owners of these songs. In reaching deals with the major publishers, Spotify relied on Harry Fox Agency to advise it on its compliance on the issue of song licenses." investors) before the IPO date, and there would be no quiet period during which analysts, issuers, company insiders, and other parties would be restricted from discussing or promoting the stock. There would also be no stock sales to selected clients coordinated by investment banks. Pundits believed that the major reason Spotify was seeking to list its shares was because of the convertible debt terms. On March 15, the company live-streamed an unusual investor day event that included a playlist of music such as "I'm Waiting for the Man," by The Velvet Underground, which announced the appearance of CEO Ek, and ending with "Closing Time," by Semisonic. Senior executives presented a vision for the company, and the chief financial officer discussed some of the company's financial aspects." Spotify prioritized growth particularly in mobile, podcasts, and cars-over profits in the short term. Spotify positioned itself in the discovery" business, as opposed to the "access" business of its competitors. In order to reach as wide an audience as possible, Spotify said its free, ad-supported tier would remain. According to the head of research and development, this offered "Something for nothing. It's the greatest value proposition in the history of the world." CEO Ek defended the direct listing by claiming, "I think the traditional model for taking a company public isn't a good fit for us."'? It was also revealed that the shares would start trading on April 3. Spotify's listing was already being called a non-IPO, since the company would start trading directly and would not be raising any cash or selling shares in the event. would pay equity capital market fees of $30 million in total to Goldman Sachs Group Inc., Morgan Stanley, and Allen & Company LLC. These three banks would assist Spotify with the listing. The banks could engage in price stabilization following the listing, but they would not have a so-called greenshoe option, which would have allowed them as underwriters to buy an additional 15 per cent of shares, to facilitate stabilization. The direct listing would also not include a lock-up period for insiders; this meant that selling volume in the early days of secondary trading would be very unpredictable and could be large. Spotify's Valuation Two common approaches to valuing companies included the discounted cash flow (DCF) analysis and the use of market multiples from comparable firms and recent transactions, such as the ratio of enterprise value to earnings before interest, taxes, depreciation, and amortization (EBITDA). Wang needed a list of peers and key data to estimate Spotify's value using multiples analysis from comparable firms (see Exhibit 9). She initially selected firms with a range of sizes and implied values but wondered whether she should narrow the set. DCF analysis started with an estimate of a firm's free cash flows over a set number of years; then, those cash flows were discounted by the firm's cost of capital to arrive at an estimate of the overall firm value. Interest-bearing debt was subtracted to arrive at an estimate of the equity value. On March 26, Spotify released guidance that indicated it expected revenue to rise by 22-27 per cent annually in the first quarter of 2018, to between 1.1 billion and 1.15 billion ($1.37 billion to $1.43 billion), and by 20-30 per cent over the full year of 2018, to between 4.9 billion and 5.3 billion (56.1 billion to $6.6 billion). Commentators noted that sales growth was forecast to decelerate relative to 2017 growth. Preparations for Direct Listing In July 2017, Spotify executives met with the U.S. Securities and Exchange Commission to explore the process of going public via an IPO (sce Exhibit 8). By this time, it had raised $1 billion in a convertible note and had hired three investment banks to assist with the IPO process: Goldman Sachs Group Inc., Morgan Stanley, and Allen & Company LLC. The private discussions progressed, but no IPO was held in 2017. On February 28, 2018, Spotify filed a prospectus to sell shares on the NYSE. Rather than going public via a traditional IPO process, Spotify was planning a direct listing after regulatory filings were approved. There would be no investor road show (i.e., presentations by management to analysts and potential In estimating Spotify's equity value using DCF analysis, Wang carefully reviewed the popular blog and analysis of well-known New York University professor and valuation expert Aswath Damodaran. She used some of his DCF model assumptions, modified with her own assessment , to estimate free cash flows for the next 10 years. She used the 2017 revenue base of 4,090 million and assumed annual growth of 25 per cent for 2018-2022, followed by growth of 20 per cent in 2023, 15 per cent in 2024, 11 per cent in EXHIBIT 10: ADDITIONAL DISCOUNTED CASH FLOW ASSUMPTIONS Year EBIT Margin* Capital Expenditures Less Depreciation Plus Increases in Working Capital** 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 -2.08% -0.41% 1.26% 2.94% 4.61% 6.28% 7.95% 9.63% 11.30% 12.97% 255.63 319.53 399.41 499.27 624.08 624.08 561.68 473.68 382.39 258.11 Notes: EBIT = earnings before interest and taxes: EBIT as a percentage of revenue, as assumed in Damodaran's model: negative margins in 2018 and 2019in millions; as indicated in Damodaran's model as "reinvestment in order to reserve the sales-to-capital ratio at 4.0. Source: Case writer estimates and Aswath Damodaran, "Stream On: An IPO Valuation of Spotify," published in Musings on Markets (blog), March 16, 2018. accessed March 29, 2018, http://aswathdamodaran.blogspot.ca/2018/03/stream-on-ipo- Jaluation-of-spotify.html Page 3 9B18N006 sound quality was average, and listeners could not access songs offline) and advertising content interspersed between songs. The premium service was priced at $9.99 a month ($5.00 for students), had higher functionality, and did not contain advertising. This premium service also allowed users to listen to songs offline (1.c., to save the songs to their devices) and had enhanced sound quality, with song bitrates increased to 320 kilobits per second." Within the premium service was a family option for up to five members of the same household, priced at $14.99 a month.' Spotify paid out 70 per cent of its revenues to copyright holders; principally, the big record labels. Its focus on negotiating and establishing a system for royalty payments set it apart from its major competitors, such as Grooveshark, and allowed it to avoid infringement lawsuits. However, paying out the majority of its revenues in royalties meant that the firm had to continually seek capital as it grew (see Exhibit 3) and that it had never posted a profit. By September 2016, Spotify had paid out a cumulative total of $5 billion in royalties to rights holders, and in June 2017, it announced plans to pay more than $2 billion in guaranteed royalties over the next two years." Acquisitions, Funding, and Financial Performance In March 2014, Spotify purchased The Echo Nest Corporation, a music intelligence firm, for 49.7 million. Echo Nest's capabilities included understanding how users accessed music: it had developed software tools to curate and drive music discovery for users. Other firms Spotify acquired between 2013 and 2017 included Soundtrap AB, Niland API, Mediachain, MightyTV, Sonalytic, CrowdAlbum, Seed Scientific, Tunigo, Preact, and Cord Project Inc., each for an undisclosed sum. 21 These acquired firms focused mainly on technology that identified songs and their creators (or rights holders), blockchain data solutions that connected apps to media," and software that created better- quality personalized song recommendations. On March 29, 2016, Spotify announced it was raising $1 billion in convertible debt from a group of investors including the private equity firm TPG, the hedge fund Dragoneer Investment Group LLC, and clients of the Goldman Sachs Group Inc. The annual interest payment on the debt would be 5 per cent per year and would increase by one percentage point every six months until Spotify went public or the rate reached 10 per cent, whichever came first. In addition, the debt was convertible into equity at a 20 per cent discount to Spotify's share price if an IPO were held within a year of the closing of the deal. The discount would continue to increase by 2.5 percentage points every six months after that initial year. Spotify added the $1 billion to its $600 million in cash on hand. Prior to raising this current round of convertible debt, Spotify had raised $1 billion from investors such as Founders Fund; Accel Partners; Technology Crossover Ventures; and Kleiner, Perkins, Caufield and Byers. 24 In December 2017, private trades in Spotify stock valued the firm at above $19 billion. This was an increase from the $16 billion valuation accorded to Spotify in the fall of 2017. Further, in early December 2017, Tencent Music Entertainment, a subsidiary of the Chinese tech giant Tencent, purchased stock in the firm, valuing Spotify at $20 billion. Some of the Spotify shares in the transaction came from Spotify's convertible debt placement: TPG and Dragoneer were allowed to convert their debt into equity at a $10 billion valuation and then sell it to Tencent at a $20 billion valuation. The amount of debt converted was not made public.25 According to Spotify's annual income statements, balance sheets, cash flow statements, and segment information (see Exhibits 4-7), the company generated revenues of 4,090 million in 2017 and had a net loss of 1,233 million. Its revenues had grown 52.2 per cent, from 1,940 in 2015 to 2,952 in 2016, and Page 6 9B18N006 Page 7 9B18N006 2025, & per cent in 2026, and 5 per cent in 2027. She estimated that Spotify's annual "steady-state" growth rate beyond the next 10 years would be 3 per cent, but she wanted to test a growth rate of 5 per cent as part of her sensitivity analysis. To determine a discount rate for her analysis, Wang assumed a market risk premium of 5 per cent. Because Spotify was not yet being publicly traded, she compiled data on peer firms to determine an appropriate beta (see Exhibit 9). She noted that Spotify did not have any outstanding interest-bearing debt. Given tax-loss carryforwards, she assumed Spotify would not pay any taxes through 2022 and would then face a 25 per cent tax rate. She assumed there were 178.11 million shares outstanding. Among other assumptions (see Exhibit 10), for simplicity, she assumed a valuation date of December 31, 2017 for discounting purposes. Wang wondered whether Spotify's direct listing was simply a unique occurrence or whether this IPO might also disrupt the traditional underwriting process, just as Spotify had disrupted the music industry. More immediately, she also wondered what would happen in the short term. Stephen Gandel, writing for Bloomberg, captured investors' uncertainty about how Spotify's shares might trade on its first day when he said, "The shares could plunge, soar, or soar and then plunge, or plunge and soar, or not trade at all because of a mismatch between buyers and sellers. 50 Early on April 3, 2018, the designated market maker on the NYSE, Citadel Securities LLC, set the "reference price for Spotify's direct listing at $132. In a traditional IPO, the reference price was the offering price, but in the case of a direct listing, Citadel selected a reference price based on recent private market transactions and independent valuations (see Exhibit 8). Wang settled down in front of her computer at 9:30 a.m., contemplating whether to place an order. Market clearing usually happened fairly quickly, so she knew she only had a bit of time to move ahead if she hoped to get in on the first clearing trade of the day. Given the size of the company and the novelty of the listing process, she suspected market clearing might take longer than expected. By 10:30 a.m., trading had not opened but Citadel Securities had posted an initial bid-ask range of $145-$155. A little after 11:00 a.m., the range moved up to $150-$160, suggesting that demand was strong. Now Wang wondered whether she should jump in or stay on the sidelines. Economic and Market Conditions The U.S. economy recorded real gross domestic product growth of 2.6 per cent in the fourth quarter of 2017, down from the third-quarter 2017 growth of 3.2 per cent." The Economist Intelligence Unit forecast growth for the U.S. economy in 2018 and 2019 of 2.3 per cent a year. In January 2018, the Federal Reserve kept its target federal funds rate unchanged at 1.251.50 per cent. This move had been expected by the market; pundits expected the Federal Reserve to continue increasing the federal funds rate as inflation rose." In late March 2018, a 10-year U.S. government treasury bond was yielding 2.85 per cent. For comparison, the yields for the other Treasury bonds were follows: 1.71 per cent for one month; 1.79 per cent for three months; 1.94 per cent for six months; 2.06 per cent for one year; 2.33 per cent for two years; and 2.64 per cent for five years." In 2017, the Dow Jones Industrial Average had its best-performing year since 2013, advancing by 25 per cent. The Standard and Poor's (S&P) 500 index gained 19 per cent, and the Nasdaq Stock Market (NASDAQ) gained 28 per cent." A pull-back in stocks in early February 2018 saw the Dow Jones briefly fall by more than 10 per cent from its high. In late March 2018, the Dow Jones had a price-to- earnings (P/E) ratio of 25.2 versus 21.1 a year earlier. It had a dividend yield of 2.24 per cent versus 2.36 a year earlier. The S&P 500 had a P/E ratio of 24.9 versus 24.5 a year earlier and a dividend yield of 1.93 versus 1.97 a year earlier.The Chicago Board Options Exchange (CBOE) Volatility Index (VIX), a measure of anticipated market volatility, spiked from a muted level of below 10 at the beginning of 2018 to over 37 on February 5, before receding to just below 20 in late March." In 2017, there had been a global rebound in IPO activity, and 374 IPOs had raised $141.4 billion, up from 268 IPOs and $106.3 billion in 2016. IPO activity had yet to reach the highs of 2014, when $238.4 billion was raised from 413 issues. However, on March 23, 2018, file-sharing service Dropbox Inc. went public and saw its first-day share price increase by 36 per cent on the same day that the S&P 500 dropped 2 per cent and both Facebook and Amazon fell by over 3 per cent." In 2017, Snap Inc., which owned the popular social media app Snapchat, surged 44 per cent above its $17 listing price in the first day of trading, but it had struggled since July of that year to trade above the listing price. THE INVESTMENT DECISION The direct-listing date had arrived, and it was decision time for Wang. She was still uncertain about whether her fund should invest in Spotify, particularly given the recent market turmoil. She needed to be comfortable that she would be buying in at a fair price, and she also wondered what the investment horizon should be. Page 4 9B18N006 Page 5 9B18N006 another 38.6 per cent from 2016 to 2017. Its net loss had grown 134.3 per cent, from 230 million in 2015 to 539 million in 2016, and another 129.1 per cent from 2016 to 2017. Disputes and Critics In October 2014, Taylor Swift's album 1989 was missing from Spotify's playlist, and Swift publicly removed the rest of her song catalogue in November 2014. She stated, [All I can say is that music is changing so quickly, and the landscape of the music industry itself is changing so quickly, that everything new, like Spotify, all feels to me a bit like a grand experiment. And I'm not willing to contribute my life's work to an experiment that I don't feel fairly compensates the writers, producers, artists, and creators of this music. And I just don't agree with perpetuating the perception that music has no value and should be free. Spotify playfully responded with a promoted playlist entitled "What to Play While Taylor's Away 2 By June 2017, Swift, seemingly interested in earning some of the royalties being paid to music streaming artists, put her full playlist back on Spotify. A member of another band, Radiohead, had announced in 2013 that I feel like as musicians we need to fight the Spotify thing," and the band kept its music off of the site. But Radiohead relented, and its music was on Spotify by mid-2016." In late December 2017, Spotify was sued by Wixen Music Publishing Inc. (Wixen). Wixen was alleging that Spotify was using thousands of songs without a license and without compensating the music publisher and was seeking $1.6 billion in damages-or $150,000 per song. According to Wixen, while Spotify had signed deals with the music labels to acquire rights to sound recordings of songs, it had failed to acquire the rights for the song compositions. The Wixen lawsuit would be the fourth outstanding lawsuit against Spotify, and the biggest. Others, by songwriter Bob Gaudio and Bluewater Music Services Corporation, collectively represented a few thousand song compositions and, potentially, hundreds of millions of dollars in damages if the maximum of $150,000 for statutory damages were awarded. Spotify had already settled one lawsuit alleging song composition infringement. In May 2017, Spotify paid $43 million to settle a class-action lawsuit initiated by a group of songwriters who had accused the streaming service of using their songs without their permission and failing to pay royalties on the music. There were potentially tens of millions of copyrighted song compositions. In statements it made to the United States Copyright Office, Spotify indicated that it was attempting to locate and identify the owners of these songs. In reaching deals with the major publishers, Spotify relied on Harry Fox Agency to advise it on its compliance on the issue of song licenses." investors) before the IPO date, and there would be no quiet period during which analysts, issuers, company insiders, and other parties would be restricted from discussing or promoting the stock. There would also be no stock sales to selected clients coordinated by investment banks. Pundits believed that the major reason Spotify was seeking to list its shares was because of the convertible debt terms. On March 15, the company live-streamed an unusual investor day event that included a playlist of music such as "I'm Waiting for the Man," by The Velvet Underground, which announced the appearance of CEO Ek, and ending with "Closing Time," by Semisonic. Senior executives presented a vision for the company, and the chief financial officer discussed some of the company's financial aspects." Spotify prioritized growth particularly in mobile, podcasts, and cars-over profits in the short term. Spotify positioned itself in the discovery" business, as opposed to the "access" business of its competitors. In order to reach as wide an audience as possible, Spotify said its free, ad-supported tier would remain. According to the head of research and development, this offered "Something for nothing. It's the greatest value proposition in the history of the world." CEO Ek defended the direct listing by claiming, "I think the traditional model for taking a company public isn't a good fit for us."'? It was also revealed that the shares would start trading on April 3. Spotify's listing was already being called a non-IPO, since the company would start trading directly and would not be raising any cash or selling shares in the event. would pay equity capital market fees of $30 million in total to Goldman Sachs Group Inc., Morgan Stanley, and Allen & Company LLC. These three banks would assist Spotify with the listing. The banks could engage in price stabilization following the listing, but they would not have a so-called greenshoe option, which would have allowed them as underwriters to buy an additional 15 per cent of shares, to facilitate stabilization. The direct listing would also not include a lock-up period for insiders; this meant that selling volume in the early days of secondary trading would be very unpredictable and could be large. Spotify's Valuation Two common approaches to valuing companies included the discounted cash flow (DCF) analysis and the use of market multiples from comparable firms and recent transactions, such as the ratio of enterprise value to earnings before interest, taxes, depreciation, and amortization (EBITDA). Wang needed a list of peers and key data to estimate Spotify's value using multiples analysis from comparable firms (see Exhibit 9). She initially selected firms with a range of sizes and implied values but wondered whether she should narrow the set. DCF analysis started with an estimate of a firm's free cash flows over a set number of years; then, those cash flows were discounted by the firm's cost of capital to arrive at an estimate of the overall firm value. Interest-bearing debt was subtracted to arrive at an estimate of the equity value. On March 26, Spotify released guidance that indicated it expected revenue to rise by 22-27 per cent annually in the first quarter of 2018, to between 1.1 billion and 1.15 billion ($1.37 billion to $1.43 billion), and by 20-30 per cent over the full year of 2018, to between 4.9 billion and 5.3 billion (56.1 billion to $6.6 billion). Commentators noted that sales growth was forecast to decelerate relative to 2017 growth. Preparations for Direct Listing In July 2017, Spotify executives met with the U.S. Securities and Exchange Commission to explore the process of going public via an IPO (sce Exhibit 8). By this time, it had raised $1 billion in a convertible note and had hired three investment banks to assist with the IPO process: Goldman Sachs Group Inc., Morgan Stanley, and Allen & Company LLC. The private discussions progressed, but no IPO was held in 2017. On February 28, 2018, Spotify filed a prospectus to sell shares on the NYSE. Rather than going public via a traditional IPO process, Spotify was planning a direct listing after regulatory filings were approved. There would be no investor road show (i.e., presentations by management to analysts and potential In estimating Spotify's equity value using DCF analysis, Wang carefully reviewed the popular blog and analysis of well-known New York University professor and valuation expert Aswath Damodaran. She used some of his DCF model assumptions, modified with her own assessment , to estimate free cash flows for the next 10 years. She used the 2017 revenue base of 4,090 million and assumed annual growth of 25 per cent for 2018-2022, followed by growth of 20 per cent in 2023, 15 per cent in 2024, 11 per cent in EXHIBIT 10: ADDITIONAL DISCOUNTED CASH FLOW ASSUMPTIONS Year EBIT Margin* Capital Expenditures Less Depreciation Plus Increases in Working Capital** 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 -2.08% -0.41% 1.26% 2.94% 4.61% 6.28% 7.95% 9.63% 11.30% 12.97% 255.63 319.53 399.41 499.27 624.08 624.08 561.68 473.68 382.39 258.11 Notes: EBIT = earnings before interest and taxes: EBIT as a percentage of revenue, as assumed in Damodaran's model: negative margins in 2018 and 2019in millions; as indicated in Damodaran's model as "reinvestment in order to reserve the sales-to-capital ratio at 4.0. Source: Case writer estimates and Aswath Damodaran, "Stream On: An IPO Valuation of Spotify," published in Musings on Markets (blog), March 16, 2018. accessed March 29, 2018, http://aswathdamodaran.blogspot.ca/2018/03/stream-on-ipo- Jaluation-of-spotify.html