Spotify (SPOT) – Earnings Review – February 10, 2024
“While I’m pleased with the level of growth we saw in 2023, perhaps what is even more gratifying is that it also marked a very different year for Spotify, a true evolution in how we operate our company. A year where we started to prove that we’re not just a company that has an amazing product, but one that also is building a great business.” – Founder/CEO Daniel Ek
Demand
- Missed revenue estimates by 1.2% & missed guidance by 0.8%.
- Constant currency revenue growth was 20% Y/Y vs. 17% Y/Y last quarter due mainly to price hikes. Premium revenue rose by 21% Y/Y on an FX neutral (FXN) basis. Ad-supported revenue rose by 17% Y/Y on an FXN basis.
- Its 19.1% 3-year revenue CAGR compares to 19.3% last quarter and 18.9% 2 quarters ago.
- Slightly beat monthly active user (MAU) guidance & estimates.
- Beat premium subscriber estimates by 0.5% and slightly beat its guidance.
Source: Brad Freeman – SEC Filings, Company Presentations, and Company Press Releases
Profitability
- Beat non-GAAP EBIT guidance by 84%. This excludes €143M in severance charges incurred during the period.
- Missed -€0.26 GAAP EPS estimates by €0.10 & met GAAP EBIT estimates. €143M in severance charges hit GAAP margins this quarter.
- Crushed FCF (non-GAAP metric) estimates by about 150%.
- GAAP GPM of 26.7% was 10 bps ahead of expectations.
Source: Brad Freeman – SEC Filings, Company Presentations, and Company Press Releases
Balance Sheet
- €4.3B in cash & equivalents. €1.2 billion in long term investments.
- €1.2 billion in convertible notes.
- Basic shares +0.5% Y/Y; diluted shares -1% Y/Y (layoffs).
Next Quarter Guidance & Valuation
- Missed revenue estimates by 0.8%.
- Met GAAP GPM estimates of 26.4%. This implies the smallest Q4 to Q1 GPM decline in years, which is related to the core business and not any one-time benefits.
- Beat EBIT estimate by 124%. Commentary on the call hinted at EBIT outperformance continuing through 2024.
- It also guided to 618 million MAUs (+16 million Q/Q) and 239 premium subscribers (+3 million Q/Q).
For 2024, leadership also told us that revenue growth would accelerate vs. 2023 while user growth remains roughly consistent with 2023. Both items were as anticipated. Margins are expected to expand throughout 2024 as well.
Spotify trades for 50x expected 2024 EBIT and 58x expected 2024 FCF. EBIT is set to grow by 283% Y/Y while FCF is set to grow by 98% Y/Y.
Call & Letter Highlights
Advertising, The Spotify Audience Network (SPAN) & Spotify Wrapped:
SPAN is a conduit between ad buyers and content publishers across most podcasting apps. It allows creators to juice traffic and advertising revenue while giving advertisers greater control over advertising segmentation, targeting and impression selection. Ad placement is done programmatically with the dynamic ability to bid on ads on a by-episode, by-impression basis. This quarter, SPAN expanded from 9 to 14 countries, with entrances into India, Japan and Mexico among others. It also enjoyed double-digit sequential growth in participating publishers on the supply side and advertisers on the demand side. Steady growth for both cohorts is vital for maintaining a healthy marketplace with fair pricing and strong returns.
Interestingly, it’s re-thinking exclusive podcast deals as a driver of advertising revenue. The deals have helped drive premium subscriptions, but not advertising revenue. Non-exclusive publishing and SPAN will be two focus areas going forward to try to reaccelerate podcast advertising performance.
Spotify Wrapped, its annual end-of-year campaign, enjoyed 40% Y/Y engagement growth, with 225 million MAUs interacting with it.
Music advertising revenue rose over 10% Y/Y thanks, in part, to stable pricing. That’s wonderful to hear and meshes very well with other digital advertising players like Meta. Podcasting advertising revenue rose over 10% Y/Y as well. This, conversely, was driven by strong impression growth, with the pricing backdrop still somewhat “soft.” Overall advertising demand was called “choppy.”
Margins:
Gross margin tailwinds for the quarter included better podcasting and music profits as well as price hikes. Podcasting gross margin is now nearing breakeven through more partnership scrutiny and continued engagement growth. Gross margin headwinds for the quarter included audiobook start-up costs and a small severance charge in the cost of revenue bucket.
Operating expenses rose 2% Y/Y via severance charges. Without these charges, OpEx would have fallen by 11% Y/Y. Still, OpEx was lower than expected due to “lower marketing spend and personnel costs.”
Audiobooks & Other New Bets:
Spotify added 200,000 audiobook titles to its U.S. content library for premium subscribers in November. It’s already the #2 audiobook publisher and is already accelerating industry-wide revenue growth on its own. It’s very pleased with the start and excited about data pointing to many of these audiobook listeners being brand new to the sector. It’s expanding the pie. This is still a gross margin and overall margin drag for the company as it scales this business to broaden engagement and improve retention.
To continue juicing engagement, Shopify also debuted its very first merchandise tab on the app with personalized recommendations for purchases.
Apple:
Last month, Ek published a scathing letter criticizing Apple’s proposed app store changes to comply with Europe’s Digital Markets Act (DMA). He criticized the new fees charged to larger merchants and how it would lead to Spotify paying as much or more than it did before. He doesn’t see this negatively impacting the business as Spotify can elect to stick with the old policy. Still, this makes DMA creating material profit tailwinds for Spotify less likely. He’s hopeful that the EU will force Apple to actually comply with the purpose of the new laws, but is obviously unsure.
Long Term Targets:
“With revenue and profitability trends both inflecting favorably heading into 2024, we view the business as well positioned to deliver improving growth and profitability as we progress towards delivering against our Investor Day goals.” – Founder/CEO Daniel Ek
As a reminder, investor day goals include 1 billion users by 2030 and $100 billion in revenue for 2033. That represents an 8% MAU CAGR and a 22% revenue CAGR over the respective periods. It also set a target of staying above a 25% GAAP gross margin and to deliver robust FCF compounding.
During the call, Ek spoke about balancing growth and profitability. He told us that “Spotify’s value is in solving problems at the intersection of creators and consumers.” It sees delivering scale within this intersection as vital and so continued revenue growth as vital to support its business and bottom line. Still, the “hurdle rate for new investments has increased” as it scrutinizes every dollar spent as much as it should. Spotify is fixated on profit compounding to appease investors and it is investing more aggressively against its long runway.
Users:
Q4 Y/Y user growth set a 5 year record in Latin America and its “Rest of World” region at 32% and 22% respectively. North American MAUs rose by 19% Y/Y while Europe MAUs rose by 28% Y/Y. This was its second best Q4 ever for MAU additions, which came in at 28 million.
Take
I found this quarter to be very strong. The FX neutral growth acceleration, strong audiobook start and continued margin outperformance make up a wonderful recipe for success. Explosive profit inflections generally create compelling opportunities, and Spotify is delivering that inflection as we speak. I was a bit skeptical that it could cut costs and maintain strong market share as it competes with Apple, Google and Amazon on music streaming. But here we are. The commentary on music ad pricing stability is encouraging from a macro perspective, with the Q1 results and guide being encouraging across-the-board from a company-specific perspective.
The last two Spotify quarters have both been wildly impressive to me. I have added this name to my watch list – along with Cava, Sweetgreen and Jfrog – and will track it more closely going forward.
