It was inevitable. Spotify, the music service that has found much success getting millions of users to actually pay to stream songs, is moving into the mobile web radio business. Automated radio and music discovery had been previously tested on the Desktop Spotify program, but now iOS users can play radio streams. That's not just limited to paying Spotify users, but anyone who downloads Spotify for iPhone, iPod Touch, or the iPad. An Android update for radio is reportedly on the way as well.
This is an important business move, but it also highlights a few distinctions in the budding legal music streaming business that many users don't get (or care about). Prior to today, Spotify's service has been focused on getting users to pay a monthly fee to access songs from music labels with which it has negotiated licensing deals. That's why Spotify users can listen to songs by The Arcade Fire but not The Beatles. This is also the same business model that Rdio (Spotify's primary competitor) operates on. Web radio (and all radio, actually), however, is served with provisions granted under the DMCA (Digital Millennium Copyright Act). The DMCA stipulates that web radio stations can serve music without explicit permission from labels, but have to follow certain restrictions, like limiting the users from skipping too many songs or choosing specific songs. This is how Pandora, the largest web radio service, works. Its an expensive business model because per-song royalties are much more expensive with web radio, which is why Pandora--even with 150 million registered users--has been struggling to make a profit with advertising alone.
Spotify moving into web streaming should be worrying to Pandora because Spotify has the upper hand in terms of revenue. It may not make as much gross revenue as Pandora, but its subscription model is much more profitable on a per-user basis than Pandora's advertising-only model. Moving from a solid subscription base first to web radio means Spotify has less pressure to make its mark in the web radio market--it can slowly grow its web radio business as a way to funnel new users to its proven subscription service. "Thumbing up" a song on Spotify radio, for example, doesn't just help curate radio streams--it also feeds back into the Desktop app and adds the song to a playlist. Pandora doesn't have that luxury of pushing people to a paying service, and advertising dollars don't necessarily scale well when you're talking about hundreds of millions of users who are used to a free service.
Pandora's advantage lies in its music recommendation engine, dubbed the "Music Genome Project". A massive--and manually coded--database of song attributes combined with a proprietary algorithm is what generates Pandora's radio streams. So far, it's managed to hold off other web radio services like Last.fm and Slacker Radio, both of which uses social graphs (eg. friend associations) to program radio streams. Spotify's radio streams also rely on social recommendations, which Pandora will argue isn't as good for music discovery. But it doesn't have to be good--just good enough. Back in January, Pandora founder Tim Westergren remarked that the company would be willing to consider becoming a Spotify "app". With today's Spotify announcement, that option may no longer be on the table.