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Spotify - MAUs and revenue rise by double digits

Sophie Lund-Yates, Equity Analyst | 29 October 2020 | A A A
Spotify - MAUs and revenue rise by double digits

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Spotify Technology S A EUR0.025

Sell: 114.33 | Buy: 114.42 | Change 0.33 (0.29%)
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Spotify's third quarter revenue rose 14% to €2.0bn, with monthly active users rising 29% to 320m. The number of premium subscribers (who pay to use the ad-free version of the service) rose 27% to 144m, but revenue per premium user of €4.19 was lower than analysts had hoped for.

Spotify reported an operating loss of €40m, reflecting lower than expected operating expenses. This was largely due to smaller payroll taxes linked to the group's share price performance.

The shares fell 4.0% in pre-market trading.

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Our view

Subscriber numbers are the most important metric to watch at Spotify. Coronavirus hasn't disrupted the stream of new listeners, so we think the long-term attractions remain in play.

Spotify's model depends on people signing up to its service, whether that's through a free trial, or the free-to-use ad supported service. A decent proportion of these users then ultimately become premium, or paying, users, boosting revenue and margins in the process.

This modus operandi remains intact. Monthly Active Users (MAUs) are still growing, feeding the top of the revenue funnel. Some of that's being supported by less-lucrative extended free trials, but on balance this is still a very positive step in the right direction.

Looking beyond the disruption the business should be very scalable, ultimately helping it to exit loss-making territory. More subscribers help lower operating costs as a percentage of revenue, which ultimately moves the company into profit.

More listeners improve Spotify's bargaining power with major record labels too. The company is working to provide a route to market for individual artists too, developing tools to help them thrive.

Unlike some rival streaming services Spotify is self-sufficient from a cash perspective. That means there's no need to rely on investors for new cash, giving it flexibility.

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 continued promotional activities have hit average revenue per user.

We're also mindful that marketing spending tends to get cut in tough times. That saw the group's ad revenue take a tumble in the second quarter as lockdowns took hold across the globe. A severe second wave of the virus could see this happen again, but investors should remember ad revenue is only a small part of the story. Difficulties here will dent, rather than destroy, the top-line.

While we think the current disruption could delay the journey to sustainable profit growth, it hasn't been derailed. Spotify is 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. Investors should keep in mind though that there are likely to be near-term ups and downs.

Spotify key facts

  • Price/sales ratio: 4.7
  • Average Price/sales ratio since listing (2018): 3.5
  • Prospective dividend yield (next 12 months): 0.0%

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Third quarter results

Spotify said global consumption (based on hours) has surpassed pre Covid-19 levels, and all regions have fully recovered.

Premium subscribers accounted for €1.8bn of revenue, up 20% on last year at constant exchange rates. The group saw growth in premium subscriptions across all regions, helped further by new market launches in Russia and surrounding countries. Russia has been the group's most successful new market launch to date. Spotify was able to reduce churn across all its product offerings, and the rate is now below 4% for the first time.

Ad supported users made up the remaining €0.2bn of group revenue, growing 15% year-on-year ago - helped by a 31% increase in this type of subscriber to 185m. Strong performances from podcasts and Ad Studio helped ad supported revenues rebound from the effects of the pandemic last quarter.

Gross margins were 24.8%, at the top end of Spotify's guidance range, led by lower non-music content, payment and streaming delivery costs. Operating expenses totalled €529m.

Free Cash Flow was €103m in Q3, a €55m increase on last year. That reflects favourable working capital movements and lower capital expenditure. The group still expects to deliver free cash flow for the year.

While still mindful of the effects of coronavirus, Spotify currently expects revenue to be €2.0-€2.2bn next quarter, and an operating loss of €112m-€32m. MAUs are expected to be between 340m and 345m, with premium subscribers of 150-154m.

Spotify had no debt at the end of the third quarter, and access to cash and cash equivalents of €2.0bn.

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This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.