Requiem for a frog: SpiralFrog shuts down

Update, 10:38 p.m. PDT: To include more background on factors that led to shutdown.

SpiralFrog, the pioneering ad-supported music service, quietly closed down on Thursday. SpiralFrog's site went dark at about 4 p.m. PDT.

A source close to the company told CNET News that SpiralFrog has ceased operations and assets have been surrendered to creditors. To keep operations going last year, the company issued secured notes in order to borrow at least $9 million from several hedge funds and others.

SpiralFrog representatives weren't immediately available for comment.

New York-based SpiralFrog made a splash in August 2006 by attempting to offer music free of charge to the public while supporting the site through ad sales. Media outlets such as The New York Times, Reuters, and USA Today questioned whether the site might one day challenge Apple's iTunes.

Some argued that SpiralFrog's business model was the answer to illegal file sharing.

But the model has yet to be proven. SpiralFrog is the second ad-supported service to shut down in 2009. Ruckus, which catered to college students, also shuttered operations.

The deaths of these companies come at a time when executives at some of the top labels are questioning whether ad-supported sites boost music sales or cannibalize them.

In SpiralFrog's situation, the company couldn't overcome "a macro-economic perfect storm" says a source close to the company. The sagging global economy, combined with "the collapse of the capital markets" and rapid compression of the ad markets," led to the company's demise, said the source.

That only tells part of the story, however. In truth, the service never caught on with music fans. SpiralFrog's downloads were locked in Digital Rights Management at a time when most of the front-running music services, such as iTunes and Amazon, were freeing songs from copy-protection software, enabling them to play on numerous devices.

In addition, SpiralFrog's music library was always much more limited than iTunes, Imeem, or other competitors. After signing a licensing deal with Universal Music Group, the largest of the four major record companies, in the summer of 2006, nearly two more years would pass before the start-up signed a second top label: EMI.

This meant that SpiralFrog never was able to offer songs from Sony Entertainment Group or Warner Music Group, which account for a large chunk of overall music sales.

The company saw two CEOs come and go, conflicts between managers and founder, Joe Mohen, and perhaps most significantly, the company struggled with debt.

A year ago I wrote that SpiralFrog was borrowing money to fund operations and avoided a debt crisis by renegotiating the loan terms. At the time, SpiralFrog had borrowed more than $9 million, but in March 2008 was given an additional year to repay it.

According to a story published last month in Digital Music News, SpiralFrog's debt was coming due and the story suggested the company may not have the means to repay it.

Here's the obvious question raised by the demise of SpiralFrog and Ruckus; is the ad-supported music sector seeing a shakeout?