Growth Stocks: Spotify

One of the most underrated stocks on the market today is Spotify (SPOT.US), the music streaming and recently podcast company. Since its founding, Spotify has been known as a music company, but its real future may lie in podcasts. Podcasts are not only growing in popularity, they are now starting to be monetized at a high level. Big brands are finding ways to advertise on podcasts, and as the industry matures, there is great growth potential to improve the advertising model.

Playing Spotify Podcasts

The music business has always been tough for Spotify. It involves negotiating with a handful of record labels that control the majority of popular music libraries, reducing margins and the financial advantage of audience growth. But podcasts are different.
Everyone does podcasts, from large companies to someone in a home studio. And Spotify's main job is to host that audio and connect it with millions of listeners. But there is one important part of the podcast ecosystem that Spotify can tackle better than any other, and that is monetization.

These content creators don't have the sales team to sell ad space on a podcast, and even if you have a sponsor, your ads won't be very well targeted. Spotify can use its market positioning to connect advertisers with listeners, giving podcasters a greater revenue stream than they could get anywhere else. And the strategy for becoming a long-term growth stock is pretty simple:

 - Step 1: increase your audience

To dominate podcasts, Spotify must be the go-to place for podcasts. According to one report, podcasts reach more than 100 million Americans each year, and 75% of people are now familiar with podcasts, up from 70% a year ago. Half of Americans ages 12 to 34, a key advertising demographic, listen to podcasts on a monthly basis, and those who listen to podcasts weekly spend an average of six hours and 39 minutes listening to podcasts.

And all these numbers are growing. It is also true that there are tailwinds behind listening to podcasts, but Spotify is building a strategy to offer podcasts as a business. And that's starting to pay off in getting listeners to switch to the Spotify platform. Once Spotify has content that appeals to users, you can start isolating some of that content on Spotify's dedicated networks. And that can help build a scale that competitors can't match, which is very important in advertising.

 - Step 2: data and more data

Once Spotify starts bringing people to the Spotify app for podcasts, you can start tracking who your listeners are. Know their name, location, music and podcast preferences, what they have searched for, who they follow, and their email address, gender, phone number, date of birth, and more. Big Data in its purest essence, what really has value. Advertisers can use this data to target ads.

 - Step 3: Print money

Once you have a large audience and the data to understand that audience, it's a matter of monetizing the audience with targeted ads. That is what Spotify is expanding today.

Audio is a big market, although less and less profitable

Podcasts have the potential to be big business for Spotify, and there are some proxies that we can use for the size of the market. In the US alone, $ 12.8 billion was spent on radio station advertising in 2019, according to Statista. Spending reached $ 18.1 billion in 2006.
Radio may not be the best. Spending on digital advertising was $ 325 billion in 2019 and could grow to $ 389 billion in 2021, according to Statista. Either way you look at it, Spotify may be scratching the surface of its potential with just € 772 million in ad revenue in 2020.

The best days of Spotify are yet to come

The podcast niche may not yet have caught the attention of investors with Spotify. The company is at a very early stage in its podcast strategy, and it will take years for the ad market to catch up. The best comparison we can compare with is Facebook.

Facebook had 1.1 billion users in 2012, but it only generated $ 5.1 billion in revenue and $ 53 million in net revenue. By 2020, its user base had grown 155% to 2.8 billion users, but revenue was up 1.589% to $ 86 billion and net revenue soared to $ 29.1 billion. During that time, Facebook improved its advertising platform and how it targeted ads to users, but the real gains came from advertisers getting used to the platform and the effect it had on their business. As that happens, budgets go up and ad prices go up. Facebook is no longer a niche ad spend for major companies, it's a huge line item.

The same could happen on Spotify as advertisers get used to creating ads for Ad Studio and learn how to target the audiences they are trying to reach. Over time, I think it's reasonable to expect podcast ad revenue to grow even faster than growth in hours listened to for podcasts, and that's very optimistic for Spotify's stock.

Fundamentals:

Although the evolution of their income has been growing as free reproduction restrictions have been applied and that more and more large areas such as restaurants, shops, and even nightlife centers make use of Spotify to have one of the largest music libraries that currently exist on the internet, paid subscriptions have increased.

However, the very high cost structure has not made it possible to achieve sustainable benefits in the same way. Precisely, the reduction of margins with respect to music is one of the main problems faced by producers and streaming platforms and therefore podcasts could go to the next level to increase the monetization of Spotify.

As we can see in the table below, the average revenue per user (ARPU) has been declining as has the growth of new subscribers:

Source: Spotify earnings 2020

Chart analysis
 
Even having revalued 295% from the March 2020 lows, Spotify's price during the second half of last year has been developing a lateral behavior with an accumulation process in two phases, prior to the achievement of the all-time high of $ 386.76 per share. Since then, the corrective process began until reaching its EMA200 as key support, coinciding with the bullish guideline of increasing lows initiated at the beginning of the first accumulation phase.
 
While the RSI indicator could have started an upward correction process after breaking the guideline of decreasing highs that could culminate in the search for levels above 80 and with a breakdown of the current consolidation box in price, which should exceed the $ 303 per share to confirm the breakout, exactly at the fibo level of 38.2% from the ATH retracement.

Darío García
XTB Spain