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Did You Hear This Announcement During Spotify's Earnings Call?

Spotify Technology (NYSE: SPOT) had a lot of good news to share with investors when it reported its third-quarter results. Investors were pleased that its listener count and revenue growth exceeded expectations. But what caught my attention most is an announcement from CEO Daniel Ek during the company's earnings call with analysts.

"We recently became the No. 1 podcast platform U.S. listeners use the most," he told analysts. That statement is backed by data from Edison Research and Spotify's internal team. And it's a major milestone for the company that investors should recognize.

Image source: Getty Images.

The biggest podcasting app in the biggest market

Ek also shared that Spotify has become the No. 1 podcast listening app in over 60 countries, but the U.S. is an extremely important market for that milestone.

First of all, Spotify's chief competitor, Apple (NASDAQ: AAPL), has a much greater presence in people's pockets in the U.S. than it does in international markets. Apple's advantages of pioneering the media format and being able to pre-install its podcast app on half the smartphones in use in the country are tough to overcome.

Second of all, the United States is the biggest market for podcasts in the world. Not only that, but the spending power of Americans also makes it the most valuable market for advertisements. That's to say, the U.S. podcasting market represents a massive opportunity for Spotify to grow ad revenue.

What it means for Spotify

The impact of podcasting is already showing up in Spotify's results. The company's ad revenue surged 75% year over year, and podcast ad revenue grew by triple-digit percentages, management said.

The longer-term impact of podcasts is the potential for gross margin expansion. Currently, podcasts are a drag on gross margin as the company sinks millions of euros into acquiring original and exclusive podcasts and creating the technology platforms for the creation and monetization of new podcasts.

Spotify accounts for podcast costs in its ad-supported segment, which produced a gross margin of just 10.5% in the third quarter. That compares with 29.1% gross margin for its premium subscription business.

CFO Paul Vogel said the company's making progress on improving podcasting gross margin. "We're seeing that trajectory really play out, which over time will help flip those gross margins on the podcasting side to be positive. And our expectation is meaningfully positive over time," he said.

More importantly, it's already showing improvement in listener monetization and customer lifetime value, which is historically a key indicator of success for Spotify. "If you look at revenue per listening hour, it is growing pretty significantly on the platform, and costs [per] listening hour is not," Vogel told analysts.

What's next for Spotify?

Spotify isn't done growing its podcast business. Ek described a flywheel where the growth of listeners, podcast creators, and advertisers all fuel one another. So, Spotify will focus on growing all three parts.

It's improving the discoverability of podcasts on the streaming service. Of the 381 million monthly active listeners on Spotify, only a small percentage listen to any podcast content. That number stood at 25% when Spotify last provided an exact update at the end of 2020, but it's said that number has trended higher in the last two quarters.

It's also continuing to acquire podcasts and strike deals with influencers for new podcasts. Meanwhile, it's offering new creative tools for podcasters, like its Q&A format or the ability to integrate music into a podcast for a radio DJ-like experience. It also opened up the ability for podcasters to upload video podcasts or put their episodes behind a paywall.

The efforts are expected to pay off, as analysts at eMarketer see U.S. podcast listeners on Spotify growing more than 50% over the next four years. That should fuel strong revenue and gross margin expansion for years to come.

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Adam Levy owns shares of Apple. The Motley Fool owns shares of and recommends Apple and Spotify Technology. The Motley Fool recommends the following options: long March 2023 $120 calls on Apple and short March 2023 $130 calls on Apple. The Motley Fool has a disclosure policy.


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