The pandemic hit global businesses across a wide range of industries, and the music industry was no exception. Lockdowns cancelled live music events, which in turn devastated the music industry. Yet, live music’s fall led to the rise of music streaming as the go-to form of music consumption. The 2021 Global Music Report from the International Federation of the Phonographic Industry (IFPI), an organization that represents the international music recording industry, revealed that the global music recording market grew by 7.4% in 2020, with total revenues reaching US$21.6 billion. That growth was largely driven by a 19.9% increase in streaming revenues, which included both paid subscriptions and advertising-supported formats. In total, streaming revenues reached US$13.4 billion and made up almost two-thirds of total global music revenues in 2020.
The Chinese music market’s strong performance during the height of the pandemic should not be discounted amid the global industry’s rapid growth. In 2017, China became a top 10 music market for the first time. It then climbed to 7th place in 2018 and has since maintained that position. While its global ranking remains stagnant, the Chinese digital music industry size continues to grow. 2020 annual revenues reached approximately US$2.04 billion in 2020, representing a nearly 300% increase from 2017.
The rise of China’s digital music industry has opened up incredible opportunity for domestic players. NetEase Inc., a Chinese tech giant and parent company to one of China’s largest music streaming sites named Cloud Village, announced a spin off listing of its subsidiary on the Hong Kong Stock Exchange in late May. The size of the proposed offering has not yet been finalized in the filing; however, a Bloomberg report floated a figure of about US$1 billion. Cloud Village’s large volume of User Generated Content and focus on independent musicians has made it an attractive platform for the younger generation of Chinese users and placed it as a leader within China’s increasingly competitive music market. After the IPO, Cloud Village will become the second public Chinese music streaming service provider, after Tencent Music Entertainment.
IP Protections Drive China’s Streaming Market
China has long been notorious for its rampant music piracy. According to a report from IFPI, 99% of all streamed music in 2011 was pirated. However, Beijing has begun to view intellectual property infringement as a threat to its future economic development and launched a crusade against music piracy over the past decade. In 2010, a special campaign dubbed “Sword Net Action” was established by China’s state council to clamp down on both intellectual property infringement as well as the production and sale of counterfeit goods. “Sword Net Action” eventually became a long-term central campaign, and, in 2015, the National Copyright Administration of China took larger steps to crack down on online illegal music distribution.
The achievements of the long-term anti-piracy crusade were notable. Authorities removed 2.2 million songs from domestic online music platforms and ordered service providers to remove all unlicensed music by the end of July 2015. Due to the government-backed activity, China’s digital music market more than doubled in size, growing by 113.2% year-over-year. As unlicensed music resources became unavailable, users were forced to pay for subscription services on legal platforms. By 2018, 96% of Chinese users were consuming licensed music through legal channels.
However, the anti-piracy crusade also resulted in a monopolistic market in which small online distributors struggled to afford licensing deals while big tech music streaming service providers rapidly gained market share by inking licensing deals with international music publishing companies to expand their libraries of licensed music. For example, in the first half of 2020, Tencent Music Entertainment Group (TME) owned a portfolio of music services that included QQ Music, Kuwo Music, WeSing, and KuGou Music for a combined 66.4% share of China’s digital music market. Meanwhile, NetEase’s Cloud Village claimed a 17.6% share of the market, which has divided the Chinese digital music market into an oligarchy of big tech firms with strong financial firepower.
How Does Cloud Village Compete with TME?
Tech giants dominate the digital music market. As the largest music streaming company, TME has a solid market position with 800 million users worldwide, or three times more than Spotify. Despite TME occupying over 50% market share in China’s music streaming industry, NetEase’s Cloud Village is a quickly rising challenger.
According to its IPO prospectus, Cloud Village’s user base has grown rapidly in recent years. Monthly average users, or MAUs, increased significantly from 105.1 million in 2018 to 180.5 million in 2020 (vs. Tencent’s 800 million MAUs), while the company’s monthly paying users of online music services exploded from 4.2 million in 2018 to 16 million in 2020 (vs. Tencent’s 51.7 million monthly paying users).
Building an Interactive Community Around Music
NetEase cannot yet compete with Tencent by user base. However, NetEase’s Cloud Village has differentiated itself from traditional music streaming services such as TME and Spotify by featuring highly interactive content through its community for musicians and audiences. For instance, the comment section under each song is among the most popular features of Cloud Village. Inspired by the song, users share their personal anecdotes and feelings in the comment section. Around 61% of users read comments and over 25% of users write comments, according to a 2020 news release from NetEase.
Similarly, in accordance to the 2020 China Online Music Industry Report by Chinese research group FastData, NetEase’s Cloud Village reached 25.9% in an index of user participation and ranked first, outperforming Tencent’s 5Sing with 14.3% and Alibaba’s Xiami Music with 12.2%. The FastData user participation index shows the ratio of instances that users engage in the community compared to the number of times users open the app. Actions like leaving comments, forwarding the song, and joining chat groups are considered engagements.
Interestingly, Cloud Village’s focus on user generated content has evolved its services into unintended areas. Cloud Village was darkly dubbed “NetDepressed Cloud Music” after some users left bleak and even suicidal remarks in the comments section under certain songs. In response, NetEase has begun to provide 24-hour counseling service and recruited more than 10,000 volunteer counselors to reach out to those who leave dark comments on the platform. This has given rise to Cloud Village gaining the reputation as a safe space in which users can gain support in all areas of their lives.
A Competitive Edge From the Music Talent Initiative
In addition to building a strong community, Cloud Village also goes to great lengths to capitalize on its music talent initiative. NetEase aims to foster independent musicians and encourages them to create unique audio content in collaboration with Cloud Village on songs, music videos, radio podcasts, and other mediums. Within this initiative, NetEase supports independent musicians with supplemental income through formal business cooperation and offers professional guidance on content creation and career advice. Moreover, NetEase also offers analytics to help independent artists gain valuable insight into their performance metrics and fan base demographics. Lastly, the company sponsors online and offline music events and campaigns to promote artist profiles and content.
Cloud Village was the largest online incubator for more than 230,000 independent Chinese musicians as of December 2020. Figures from its IPO prospectus also revealed that it has amassed approximately 60 million music tracks, with one million of these being original content that was created by registered independent artists on the platform. As of December 2020, registered independent artists on Cloud Village have contributed more than 45% of the platform’s overall music content. All in all, Cloud Village has created a self-sustaining ecosystem in which independent artists serve as a pillar of community engagement and content creation, while high platform user participation acts as a magnet for talented musicians to engage with more fans.
A War of Exclusivity
Despite Cloud Village’s excellent User Generated Content and unique music talent initiative, its chief competitor, Tencent Music Entertainment, has built a considerable moat around its market share through exclusivity rights. Exclusive deals with major record labels such as Universal Music Group, Sony Music Group, and Warner Music Group Corp have been incredibly successful in fending off competition. Due to music licensing arrangements, Chinese users must subscribe to any one of Tencent’s many music streaming platforms to enjoy their favorite mainstream songs.
However, China’s regulators are quickly tearing away at Tencent’s comparative advantage. In 2018, the National Copyright Administration demanded Tencent and NetEase share over 99% of their exclusive music. More recently, China’s State Administration for Market Regulation ordered Tencent to completely drop its exclusive licensing rights and slapped the company with a US$77.4 thousand fine. Though it will be difficult to catch Tencent’s massive user base in the near future, NetEase has been making steady progress by purchasing music streaming rights from larger record labels and has inked licensing deals with Warner Chappell Music in May 2020, UMG in August 2020, and Sony Music Entertainment in May 2021.
The Right Time for Cloud Village to IPO
No more than ten years ago, users could simply download music for free across a multitude of Chinese platforms. Piracy was blatant and rampant. However, stronger enforcement of copyright protections as well as a crackdown on exclusive streaming contracts has since fostered a healthy environment for music streaming platforms to continue growing. While Cloud Village still trails far behind its major competitor, Tencent Music Entertainment Group, it has carved its niche and continues to regain market share.
It will be crucial for NetEase’s Cloud Village to maintain its competitive edge and retain high user retention rates. Meanwhile, the company’s IPO comes at a valuable time to raise much needed capital given the company has remained unprofitable since its launch in 2013. All the same, its negative gross profit margin has significantly narrowed from 114.7% in 2018 to 12.2% in 2020 – and alongside Tencent’s diminishing competitive advantage, an IPO will give Cloud Village the financial arsenal it needs to ink some deals and score more users over to its platform.