Spiralfrog takes first leap in U.S.


DENVER -- After months of delays, executive upheaval and more than $10 million spent, the Spiralfrog ad-supported free digital music service went live today in the U.S. The U.S. launch is an important step in determining whether offering free music in return for watching advertising is a viable business model for the still-struggling digital music space.

The service operates much like any other music subscription service in that users can search, sample and download an unlimited number of songs, but are required to register with the site once a month -- free of charge -- to refresh their licenses. The idea is to lure users of free, pirate peer-to-peer networks to a free, authorized service, and make money through ads on the site.

But major questions remain over whether Spiralfrog, or other ad-based services for that matter, can attract enough regular users to generate revenue needed to pay for its music licensing costs.

The company outlined its strategy to address this issue in a Securities and Exchange Commission (SEC) filing last week. The document details a unique licensing scheme that focuses on royalty payments paid upfront, in addition to a split of advertising revenue.

For instance, Spiralfrog paid Universal Music Group -- the only major label supporting the service to date -- an upfront fee of $2.2 million for its catalog. Additional payments will be due after Nov. 15.

This model means Spiralfrog is not paying a per- download or per-stream fee, like other services must -- a critical distinction. If it had to pay labels per song, ad-supported services would run out of money long before they could generate enough traffic to justify raising advertising rates to the level needed to cover the licensing fee. That©ˆs why Napster stopped hosting its free, ad-supported service tier on its main site and instead hides it in a non-linked page -- it was starting to cost too much.

"It's a bit of a Catch-22," Napster COO Christopher Allen says."You scale the audience to where you can generate the advertising (rates), but have a difficult time paying the financial obligations. But until you get to that scale, you can't charge the (rates)."

During the private beta, Spiralfrog says the average user downloaded 16 songs and viewed 15 pages on the service per day. It has 700,000 songs and 1,500 videos available. According to the SEC filing, Spiralfrog hopes to finalize licensing deals with at least two other major labels and launch service in the United Kingdom by the end of the year. A mobile service is also in the works.

At launch, Spiralfrog is in a precarious financial position. It has generated only $3,000 in advertising revenue as of the end of June through its beta phase and Canadian live launch in May, and has less than $1 million in cash on hand. The company says it needs another $18 million in funding for the next year or won't survive, and will initiate a $25 million private placement funding round for the fourth quarter to sustain operations.