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The Revolution Will Be Streamed

Streaming represents the second major shift in the way music is being consumed in just a single decade, and it has stopped the previous juggernaut in its tracks.

Most media investors have all but given up on the music industry as a potential growth opportunity. And for good reason: Annual global recorded music revenues have declined every year since 1999, when we had our first glimpse of the end of the age of the compact disc. Clearly, record labels and music publishers have proven incapable of successfully migrating from the old model of selling physical albums to the new one in which digital music is king. But just as the current digital format seems on the verge of killing the industry, an even newer digital alternative is emerging that might just save the day: on-demand streaming services.

Streaming Has Grown by Over 50 Percent

It's the second major shift in the way music is being consumed in just a single decade, away from digital sales and toward platforms that allow users to pay a monthly fee to effectively "rent" music without having to buy it whole-hog. And it has stopped the previous juggernaut in its tracks. After skyrocketing for a decade straight, digital sales through platforms such as Apple's iTunes declined for the first time ever in 2013. And they did so again last year, with worldwide sales of digital songs dropping 12 percent to 1.26 billion, and sales of complete digital albums down 9 percent to 117.6 million, according to Nielsen SoundScan. At the same time, though, the streaming of audio has exploded, climbing 54 percent just last year to 164 billion songs played. Platforms such as Spotify, Deezer and Beats Music are projected to drive growth in paid streaming recorded music revenues of between 50 and 60 percent this year and next, according to Credit Suisse.

Filling The Gap of Falling Digital Downloads

Streaming platform revenue has grown from a standing start of zero in 2008 to $1.1 billion in 2013. Since its founding in 2008, Spotify has seen its base of paid customers grow from zero to 10 million, and that during a period largely marked by tepid consumer spending. While only about 70 percent of that actually makes it into record company pockets, it's growing so fast that it might just overwhelm the falling revenues from digital downloads. What's more, while streaming obviously generates higher margins than physical sales, it's also more profitable than the digital alternative – sales through iTunes and the like – and thus is helping to improve record label profitability at a time their revenues remain under pressure.

The Subscription Does the Trick

The proof is in the numbers: record companies make 40 percent margins on streaming revenue, compared with 34 percent on digital downloads and only 10 percent on physical sales, according to Credit Suisse. A streamed song is only worth a few pennies to a label, to be sure, but it's the subscriptions that do the trick. A streaming subscriber paying $9.99 per month for a service generates average annual revenue of around $120 for the industry – and 70 percent of that is $84 – compared to the average digital music buyer's contribution of just $50 per year, according to Credit Suisse. If streaming continues on its current trajectory – the bank estimates that paid streaming will represent 34 percent of total recorded music revenues in 2016, compared with only 14 percent in 2014 – Credit Suisse analyst Omar Sheikh says it might just help global recorded music revenues return to growth in 2016 after 17 years of declines. After falling an estimated 4 percent in 2014, the analysts forecast a slight decline of 1 percent in 2015 and then actual growth of 3 percent in 2016.

Apple Has Discovered Streaming

And it's not just record companies that are enthusiastic. Apple, which already controls 60 percent of the digital download market, also sees a rosy future in streaming, demonstrated by its decision to purchase subscription-based streaming service Beats Music last year. Although Beats is still much smaller than Spotify, Apple has yet to truly market the service to its approximately 500 million registered iTunes users, but it will help Apple further diversify its sources of revenue, and help bring more consumers into the streaming fold as well. "Apple is likely to further accelerate the music subscription market's development," says Sheikh.

Taylor Swift: "Music Should Not be Free"

And what of artists themselves? Many aren't thrilled with the growth of streaming because the amount they receive in royalties per stream is miniscule: Spotify sends a mere $0.007 per play to the artists themselves. Pop star Taylor Swift famously removed her entire catalogue from Spotify last year, taking issue with the service's policy of giving non-subscribers access to music for free. "Music is art, and art is important and rare," Swift wrote in a Wall Street Journal op-ed. "Important, rare things are valuable. Valuable things should be paid for. It's my opinion that music should not be free."

A Potential Light at the End of the Tunnel

But what isn't good for artists can still be favorable for record companies. That's an axiom that has existed ever since the era when people got their kicks from LPs. It also appears to be the case today, as streaming represents a potential light at the end of a long tunnel of declining revenues. "Paid streaming services look well-placed to grow strongly," Sheikh writes. "If we are right that paid music streaming will become a mainstream consumer media product, this has profound implications for the profitability of the record labels and publishers."

This article has originally appeared in The Financialist.