Spotify's third quarter revenues rose 28% to EUR1.7bn, slightly ahead of guidance as Premium subscriber growth came in ahead of management expectations. Slower growth in operating expenses boosted margins, supporting an operating profit of EUR54m compared to a EUR6m loss a year ago.
The shares rose 6.5% in pre-market trading.
Since its unconventional stock market listing last year, the world's largest music streaming service has reported consistently impressive growth figures.
MAUs and revenues are both on an upward trajectory. And while Spotify expects to remain loss-making this year, we can see a clear route to sustainable profitability if recent trends continue. The business should be very scalable. More subscribers help lower operating costs as a percentage of revenue, which ultimately moves the company into profit.
More listeners improves Spotify's bargaining power with major record labels too, especially with global streaming revenues accounting for 75% of total music revenues last year and virtually all the sectors growth. Spotify is also working to provide a route to market for individual artists, developing tools to help them thrive.
There are opportunities to upsell too. Over half of Spotify listeners are low revenue, ad-supported customers and the recent foray into podcasts seems to be delivering impressive results. Transferring users onto subscriptions offers significant revenue upside.
Unlike other rival streaming services Spotify is self-sufficient from a cash perspective. With no need to rely on investors for new cash the group's been able to start a sizeable share buyback with its surplus cash - which would be a pipedream for the likes of Netflix who need every penny of cash to generate new content.
The path to profits isn't without pitfalls though. If Spotify can't deliver the required growth, the virtuous circle of higher revenues, lower average costs and improved cash flow will break. Competing with the likes of Amazon and Apple is no small ask either, while the launch of discounted student and family packages has hit average revenue per user.
Nonetheless, we think Spotify's well positioned in the long term. It's got increasingly direct access to content producers, relatively low and flexible costs, and a roll-out story that should help it leverage the benefits of scale.
Third Quarter Results
Monthly active users grew 30% year-on-year to 248m, above the high end of guidance. That reflects strong growth in emerging markets, especially Latin America and India, and improved subscriber retention. Premium subscribers now account for 45.6% of all users, with Premium outpacing Ad-Support year-on-year.
Product and revenues mix meant gross margin in the core music business was better than expected, and overall gross margin of 25.5% was above the high end of guidance. Operating expense rose 11% with lower spending across the board compared to last quarter.
Investment in new Podcast products is driving increased engagement while initiatives to appeal directly to artists have the potential to boost revenues and reduce content costs.
Spotify generated EUR48m free cash flow during the quarter, and finished the quarter with cash and cash equivalents of EUR1.6bn. The group has now completed $555m of its planned $1bn share buyback.
The group expects to deliver continued user growth next quarter, although will return to an operating loss of EUR31-EUR131m.
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