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Let’s Hear it for Spotify

April 9, 2024

Spotify shares have almost doubled since my first post-2022 share price correction recommendation. The business is trading well, moving firmly into profitability and introducing new products like Audio books, available on the same original Spotify subscription for unlimited music and making the subscription more attractive and more valuable.

Key highlights from the Q4 2023 shareholder deck summarise the exciting things happening at Spotify.

The next slide shows how Spotify is becoming a global business with dramatic growth in Latin America and the Rest of the World.

Something similar is happening, albeit less dramatically, to premium (paying) subscribers. I guess there is a time lag. I used Spotify for ages before my daughter made me realise the advantages and the low cost of becoming a premium subscriber.

Management led by CEO and co-founder, Daniel Ek, has big ambitions.

The scale, reach, impact and opportunities facing the business are growing all the time turning Spotify into an audible version of Facebook with its globally encompassing social networks.

It seems to me looking at the charts below that the challenge facing Spotify, much like Facebook (Meta Platforms) is to find more effective ways of monetising its growing community.

The company is super confident in the outlook.

I hope you’ve had the opportunity to review our Shareholder Deck to get a sense of what an incredible year 2023 was for Spotify. Throughout the year, we notched some really significant milestones and set numerous records. This included 113m MAU net adds, and Premium net adds of 31m, both the biggest full year additions in our history. And our annual Wrapped* experience also toppled previous levels of engagement, surpassing 2022’s numbers in just the first 31 hours of the campaign. We accomplished all of this by significantly exceeding our own expectations when we entered the year and against the backdrop of global turmoil and uncertainty. And Q4 was a continuation of this story. While I am 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 are not just a company that has an amazing product, but one that is also building a great business. There’s no question that we had to make some difficult decisions to put us on track to achieve our goal of being a consistently profitable company. But by taking these steps, I am super confident in where we’re headed.

Daniel Ek, CEO and co-founder, Spotify, Q4 2023, February 2024

*Wrapped is a branding/ marketing/ fun experience for Spotify users. It started in 2018 and in 2019 was described as follows:

Spotify has completely reimagined the way we listen to music. With instant access to your favorite artists and songs under one roof, it’s easier than ever to connect with the music that moves you, from all around the world.

And by collecting and repurposing data around our listening behavior, Spotify can even recommend new artists, genres or even the right music for your mood, creating a sticky user experience that keeps listeners engaged and curious.

To really take advantage of this data to create an awesome, personalized experience for listeners, Spotify introduced Wrapped in 2018, giving users a glimpse into their favorite songs, artists and genres throughout the year with a personalized playlist.

Well as 2019 came to a close and we said good-bye to another decade, many listeners were eager for our year in review. But Spotify surprised us all with something pretty special. Spotify 2019 Wrapped was a complete look back at our listening patterns not only from the past year, but even all the way back to 2010.

Matt Grech, Content Marketing Manager, Smartling, 2019

By 2023 Wrapped had evolved into something much bigger.

Today, the biggest Wrapped we’ve ever created debuted on Spotify. Not only is it live in a whopping 170 markets and 35+ languages, but it’s also taken on a more prominent role in our app, with integrations spanning DJ, audio listening rooms, Blendmerch, and more. In a year in which Spotify brought more to users than ever before, 2023 Wrapped stands to unite all of our offerings in one unforgettable experience. 

This year’s personalized Wrapped experience is also full of new data stories, including a twist on Your Top Artist that showcases how your relationship with your favorites has changed over time. It also features Sound Town, which highlights the city that has the most similar taste profile to yours, and video thank you messages from your favorite artists—submitted by over 40,000 creators—right in the Wrapped experience.

It’s all the result of a special company-wide collaboration between teams across Spotify. As Global Head of Marketing Experience, Louisa Ferguson builds those connections across every moment of the campaign strategy, end-user journey, and global roll-out. A music and Wrapped fan herself, she’s especially excited for the ability for fellow fans to be able to share their Your Top Song playlists with friends—a long-awaited, much requested update. 

Louisa Ferguson, Spotify’s Head of Global Marketing Experience, 29 November 2023

Targeting Better Monetisation

In his prepared remarks, Ek referenced my idea that the problem now for the company was better monetisation.

Looking to 2024 – you should expect a continuation of what you saw in 2023. Strong product development, which leads to strong growth but with an increased focus on monetisation and efficiency, which in turn drives profitability. I know some of you may start to wonder if we are sacrificing growth for profitability. Long term we believe that the real value of Spotify is in solving problems at the intersection between creators and consumers. With scale, there will be even more opportunities to do so. Therefore growth is still the most important thing we can deliver. However, equally true is that our hurdle rate for investment has increased. So, what gives?
As I’ve shared before, we have various levers to pull at different times to drive revenue growth. These include growing our users, creating new businesses with new revenue streams and increasing revenue per user through price increases. In 2023, we leveraged all three throughout the year at various times, but this won’t always be the case. You should expect to see us shift back and forth among prioritizing these three key elements based on a variety of considerations.
Looking ahead, I believe 2024 is going to be another year of solid progress, led by an acceleration of revenue growth. That said, I think it is important to remind investors that we constantly modulate between what we spend most of our time focusing on. In some years, it is a focus on growing the top-of-the-funnel, and in some years, it is about driving monetization of those users. The last few years have been extraordinary from a top-of-the-funnel perspective. Our aim is to continue this trend, but our focus in 2024 is more on how we monetise that growth.

Daniel Ek, CEO and co-founder, Spotify, Q4 2023, February 2024

Audio Books Are an Exciting ‘Something New’

Audio books also look like an exciting ‘something new’ to drive share price appreciation.

I also wanted to provide a quick update on our audiobooks business, which is performing well and we are very excited about its potential. It’s still early days, but the feedback from listeners and from the industry is extremely encouraging. Data shows that our entry into this market has dramatically accelerated its overall growth. In Q4, we became the #2 provider of audiobooks behind Audible [part of Amazon], which is notable given how entrenched the legacy players are. This is exactly what we set out to do – grow the pie for the publishing industry and expand the interest in audiobooks to an entirely new set of listeners. More to come as this takes hold and we roll it out to additional markets.

Daniel Ek, CEO and co-founder, Spotify, Q4 2023, February 2024

There is even a feeling that Spotify could be reaching something like escape velocity with the business which could be incredibly exciting for shareholders.

The long term opportunity for Spotify is strong. We will continue to innovate in big and small ways to deliver for our listeners – and the artists, creators and authors on our platform. Make no mistake that we will continue to make bold bets, invest, and seize on opportunities when they make sense – but with a much more disciplined approach.

Daniel Ek, CEO and co-founder, Spotify, Q4 2023, February 2024

I found an interesting article on Spotify by another fan of the stock.

Also heading into 2024, and looking beyond, I am super bullish on Spotify stock. In fact, SPOT is my favorite long [bullish] idea for potentially explosive upside: In my opinion, Spotify is poised for significant growth and increased profitability in 2024, building on strong product development and a focus on monetization as well as efficiency improvement. My fundamental projections suggest a 15-20pc YoY increase in MAU, with sales growth mirroring this expansion. Profitability aims include a 50 basis point quarterly increase in gross margin, targeting a year-end gross profit margin of around 27pc, bringing estimated annual operating profits to $550-600m and free cash flow to $1.5-2.0bn, likely sparking a possible buyback program as early as Q2 2024. On a more structural note, the company’s potential for user base expansion is considerable, with opportunities in monetization and diversification into podcasts, audiobooks, and educational streaming. Spotify’s long-term market opportunity could reach $170bn by 2030, with $51bn in sales for Spotify on a 30pc market share assumption (Source: HSBC, research note dated 27th March: Spotify: Initiate at buy: Hitting the right notes). Considering updated valuation metrics, most notably a lower risk requirement for the equity, as well as an accelerated EPS growth through 2028 on the backdrop of a solid growth outlook, I update my valuation framework for Spotify; and I now calculate a fair implied target price of $368/share.

Cavanagh Research, 3 April 2024.

Note that the price target is for this year. It would be higher for future years.

A share buyback programme could be an important driver of share price appreciation.

With Spotify’s free cash flow expected comfortably above $1bn in 2024, paired with a $2.4bn net cash position, I argue the announcement of a buyback program as early as Q2 2024 could be likely. Investors should consider that Spotify needs very little cash for growth, as evidenced by the company’s enormously attractive incremental free cash flow on incremental CAPEX metric. For context, Spotify’s CAPEX/Sales ratio is 0.0005, while the company’s YoY 2024 vs 2023 operating expense investments of $50m generated a gross profit uplift of $800m.

Cavanagh Research, 3 April 2024

The longer-term opportunity also looks exciting.

On a structural perspective, investor should note that there is still lots of penetration upside for Spotify. In fact, I argue that the demand for music is universal. And with Spotify clearly leading the streaming commercialization of this universal product, the company may see a user count similar to other global platforms such as Instagram/ Facebook, or YouTube, suggesting a MAU potential that could top 3bn in the most optimistic scenario.

In addition to the user base growth potential, I also see an enormous opportunity in monetization: In fact, the majority of SPOT’s earnings, around 85pc, are generated from its premium subscription offerings, while premium subscribers account for less than 40pc of the company’s total user base. The rest of sales, about 15pc, comes from advertising income via its free, limited-access streaming platform.

Lastly, Spotify’s growth is supported by opportunities emerging from ventures into podcasting, audiobooks, educational streaming, and the Two-Sided Marketplace. On that note, I highlight work by HSBC, which estimated that Spotify’s 2030 market opportunity could top $170bn, with $51bn of sales for Spotify on a 30pc market share assumption (Source: HSBC, research note dated 27th March: Spotify: Initiate at buy: Hitting the right notes).

Cavanagh Research, 3 April 2024

Strategy – Buy Shares in Spotify

The share price chart shows a roller coaster since the IPO in 2018. The shares have roughly doubled since then having dropped sharply lower in 2022. I guess that the shares will soon follow Meta Platforms in hitting new all-time highs and there is plenty of appreciation to come.

Share Recommendations

Spotify SPOT. Buy @ $309

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