Spotify Technology S.A. (SPOT) Earnings Call Transcript & Summary

Great. I'm Heath Terry. Thanks so much for joining us. We're really excited to have with us today Paul Vogel, Chief Financial Officer of Spotify. Paul, obviously, incredibly busy time for you and the company. So thanks so much for taking the time to be here with us.

No. Thanks for having me, Heath. I really appreciate it.

So Paul, just maybe to kind of set the stage such that it is, Spotify obviously is a company that everybody watching should know just simply for your services and your products, but can you just kind of explain what it is that you and investors should be thinking of when they think of Spotify as a company?

Yes. I mean, for us, as we've talked about, it's obviously about being an audio-first company. It's about really leaning into music and podcasts and all things audio. If you take a step back and look at how we've done, we feel really good about, quite frankly, how we've done as a public company, but particularly in the last 6 months, the first half of the year, we're approaching 300 million MAU, 138 million subscribers. We saw that in the first half of the year. We actually added more net new MAU and more net new subscribers in the first half of 2020 than we did in 2019. So we feel really good about the business and where we're headed from a user standpoint and a subscriber standpoint. I would say from an opportunity standpoint, we still think that audio, in general, is underrepresented and under monetized. It's about 1/10 the size of video globally. We think there's a tremendous opportunity for audio to expand. And I think when people sometimes look at audio and when they look at the opportunity, they try and kind of look at us in certain buckets of what could you replace or what could you be growing instead of or substituting. And I think we look at it in a much bigger picture than that, which is this is a huge opportunity for us to continue to grow to actually to build a business that doesn't exist right now. We started that with streaming music, and now it's all of audio with podcast and really feel that the opportunity is way bigger than people even see. And so I've been at Spotify for about 4 years. And I can tell you, I think the opportunity that we have in front of us now is significantly bigger than even when I thought it was 4 years ago when I started.

Yes. No, that's certainly understandable. This pandemic has impacted nearly every type of business differently, whether it's e-commerce, stream media, online travel and that -- that's just the Internet sector. How have you seen it impact Spotify?

Yes. So let me take it from a couple of different angles. I would say, first, from an employee standpoint, obviously, the health and well-being of our employees and everyone globally is paramount and the most important thing. And we went work from home pretty early on in the process. I think we went work from home March 9, which was actually a couple of days before the MBA shutdown. So we were pretty early in going work from home globally. I would say the good thing about our business is we are -- we've always considered ourselves a distributed workforce, founded in Stockholm with a huge presence in headquarters in Stockholm. We obviously have a huge New York office as well and offices in L.A. and London, Boston and places around the world. And so it's very rare that you would ever be in a media and Spotify that had a couple of people that didn't have somebody on a TV screen, on a video conference in some way, shape or form. So we're pretty used to operating in this manner. From a productivity standpoint, we've been really, really pleased. I would say productivity is actually at or above where it was prior to the pandemic. So we feel really good that employees have adjusted and are doing well in this environment. And again, given the setup of the business, we feel that we're uniquely positioned and set up to actually work in this way. So from that standpoint, from an employee productivity standpoint, we feel really, really good. Obviously, employees are handling this differently. Some have really embraced it. Some are going to be struggling more depending on the situation in terms of your home life and your work life and what you have in [ turn ]. So we're really trying to manage and understand our employees and where they are from a productivity standpoint but also from a health and well-being and mental standpoint because, again, it's different for everybody. And I think the dispersion is probably wider than it would normally be. From a product standpoint, as I said earlier, we feel really good about how the business has performed given all that's going on. User growth, subscriber growth in the first half of the year was better than expected and better than we did in 2019. So we feel really good about that. Continue to launch new products and new innovation, and all of that is -- feels really good from a product and productivity standpoint. And then from a consumption standpoint, which we've talked about, we have seen consumption patterns change a lot. You can imagine, particularly at the very early days in March, April, we saw commutes go down. We saw car listing go down pretty materially. I think at the peak, car listing was down about 50% from the peak. It's recovered almost all the way. It's now down less than 10% from where it was. The peaking continues to rebound. We've seen a lot more listing in home with smart speakers and game consoles, which have really been a strong suit for us. So we're now back above the pre-pandemic levels in terms of consumption. So we feel great about that. And while we're seeing some change in behavior and patterns, it has gotten -- it's continued to move better above pre-COVID levels.

Yes. So a lot of different parts of the business to dig into. And obviously, music is overwhelmingly the biggest part of your business and probably will be for a very, very long time. But podcasts have been a huge focus for at least the headlines around Spotify for the last year or so. And I think much of investor attention has been focused on the value creation that we've seen around your recent podcast efforts. Just to start from a high level, what makes podcast such a priority for Spotify?

Yes. So I think there's a couple of things. I think one is, as we've talked about, we want to be the largest global streaming audio player, and this is just sort of another opportunity to grow within audio. We think that podcasting as a way to really differentiate us from others in a couple of ways. One, from a product standpoint, having more original products, some exclusive product on the platform, it really allows you to do things differently than you could in other ways in terms of having that exclusivity, having content that really drives people to the platform, which is great. We also know in our -- using our kind of history in music, one thing that we've been really good at, at Spotify is in helping with discovery and helping you discover things that you want to listen to, maybe things you've forgotten about or things you never knew you even liked. And one of the reasons we were so successful in music was the investment we made in technology, in machine learning, in AI, in ways to actually allow us to surface content to you that would really make your experience better. And we think there's a huge opportunity on the podcasting side. So not only can we have unique and differentiated content, but now we're actually able to serve you content that is really going to be interesting for you. It's going to allow you to discover podcast you didn't even know you were interested in. It's going to make the experience much better for you. So it's combining both the uniqueness of the content along with the discovery. And we actually think having altogether in one app is really a big benefit for us as well. When you're listening for audio, people sometimes often will switch between music and talk for different reasons. Having in one app allows us to serve you experiences that are also truly unique and different for you that others can't offer. It allows us to really tailor offerings to you, things like the Daily Drive, which actually is a playlist that mixes music and talk for your commute. And so things like that, we think, are really going to be beneficial for us but also, really, for the consumer in terms of their experience and really giving them an audio experience that helps them discover more content.

Yes. To dig a little bit deeper into that, how do you think about the economics of podcast content? You've obviously signed some really high-profile deals. Where is the math? How do you make the math work on those?

Yes. So I think there's 2 components, and I think this is kind of pretty important and interesting to think about. So for starters, there's the basic math, there's the basic economics of that people think about from a financial standpoint. So what are we paying for the podcast content? And what are we getting back in revenue, whether it's advertising revenue? And how does that math work? And so there's that one component, but the other component is really thinking about what is this doing for the overall ecosystem at Spotify? What's it doing for user growth? What's it doing for subscriber growth? How is it improving engagement? And we know the more we have higher engagement, higher engagement leads to better retention, which is obviously great for the platform. It reduces churn on the subscriber side of the business. And so for us, there's 2 ways of looking at podcast. One is just the basic kind of economics financials that you guys would be able to see. And then there's holistically how it's benefiting the entire business. And so for us, we look at it both ways, and we're able to look at a piece of content and say, how is this impacting kind of the LTV of each individual user or a subscriber? And what's the value of each piece of content as it relates to both the financial benefits of more advertising as well as the other financial benefits to our major KPIs of user growth, of subscriber growth, of retention and of churn. And as, Heath, I know you know, and I'm sure most people in the call know, we talk a lot about LTV. We talk about LTV to SAC and how are we bringing in subscribers and the profitability of those subscribers. And so all of that plays into the content and the content decisions we are making in terms of what we spend, how we spend and what we spend it on.

Yes. So for somebody looking at what you're doing in podcast and trying to think about what this looks like longer term, how do you envision monetization breaking down between advertising, premium subscription revenue, what you're doing in 2-sided marketplace, maybe some revenue streams that we haven't even thought of yet? Where's the right direction to go?

Yes. So it's a -- well, I think, first of all, at a high level, I think we feel -- we think that having both a subscription business and an advertising business is actually something that really differentiates us from everybody else. And being able to monetize in both ways is something that's truly unique to Spotify. Having this freemium model where you can have people on-ramp using a free service and convert them to a premium business is actually really key for us. So we expect that, that will continue, and we think it's a big differentiator for what we do as a business. With respect to how it grows, I think you'll continue to see both parts of the business grow. I think from a podcasting perspective, we think the increased inventory we have, the increased usage of audio and audio formats is going to be really key. And so we think both of those will continue to grow and will be a driver for us. With respect to marketplace, marketplace is a little more nuanced. Some of the marketplace benefits we get will hit revenue. The majority of the marketplace benefits actually end up being a reduction in cost of revenue in sort of contra cost in the way the accounting works. So that won't necessarily show up in revenue growth, but it should show up over time in gross margin improvement. So I think all of those will happen. And to your point, yes, we're always working on kind of new products and new initiatives that potentially could have monetization avenues in the future.

Yes. Judging from the questions flowing in as we're talking, we could probably spend the next 2 hours just on podcast, but I'll move on from here. Maybe just to go a little bit deeper into marketplaces for a little bit of Spotify one-on-one. Can we start with just what is the 2-sided marketplace? What's the distinction between how artists are going to use it, how labels are going to use it?

Yes. So I mean, for us, look, the marketplace is about allowing creators to connect with their fans. It's a way of getting creators distribution, access, discovery on our platform. And so we've talked about some of the tools with some of the sponsor recommendations and things we're doing. We have lots of things we are building out. Admittedly, we've been somewhat quiet about exactly what those are, some of it is for competitive reasons and some of it as we build-out, but it's really about our goal of having 1 million artists live off of their art and having 1 billion users on the platform. And so for us, the marketplace is another way that will be tools and services that allow artists to connect with our users, their fans in a way that helps them get discovered and helps them live off their art. And I think it will be -- the labels will use it, the artist will use it in lots of times, they're one and the same. And I think for us, it's about proving out a tool set and a bunch of products that actually are really additive to the overall ecosystem that allows again these creative artists to sort of connect with their fans.

Yes. And so when you look at the kind of services that each side of the marketplace might offer, what does that look like? What could that look like over time as the marketplace develops?

Yes. I mean, I think there's lots of different opportunities. Again, we haven't given out too much of it, but we've talked about Marquee, which is a way to sort of target and -- a song, a record, an album to a group of fans, people who either you know are going to like your music or we think are going to like your music in order to get wider distribution and get that discovery. And so for us, it's really about creating all those tools that will allow an artist to go in and use what we provide to connect with their fans. And so there's a lot of stuff we're working on. Again, we've sort of talked about Marquee. We have some other stuff that hopefully we all talk about in the not-too-distant future, but that's kind of how to think about it is how can we give you the opportunity as a creator to get that distribution and get that discovery on our platform.

So for Universal, who's been the highest profile sign-up that you've had with that, what is their adoption potentially going to look like? How is that going to develop? And what was different in the discussions with Universal that led to their signing on with the marketplace the way they did versus the other labels?

Yes. So we're super excited about where we are with Universal. And I think for us, it really validates the marketplace strategy. It validates what we are trying to do that the largest label wants to lean into the tools and services that we're providing. And so we're really optimistic that this is sort of the next step in the growth and evolution of where the marketplace will go. I think for Universal, it's great because they're going to be able to work with us to help develop some of these tools, to have input on what we're developing to sort of give us feedback. So it will be a 2-way street that allows us to actually customize and tailor their tools and services to what's best for the labels and allows Universal to have some impact and say in how those develop. For us, we want to work with all the labels equally on the marketplace tools. We have worked with others in the past. So this isn't necessarily something that we're all going to do with the Universal. We're super excited that they're leaning in, and they want to take that step forward, but our expectation is that we'll work with all the labels in marketplaces moving forward.

When we look at the core music business itself, you've obviously seen incredibly strong subscriber growth over the past few years. What do you see as being the key drivers of that subscriber growth going forward, particularly in more developed markets like the U.S. and Western Europe?

Yes. So I think it's a combination of a number of things. So one is we continue to iterate and innovate on top of the platform. And so a year ago, we would do maybe tens, if not hundreds, of kind of testing -- A, B testing iterations within the product in any given quarter. Now we do thousands. So we continue to innovate and test new things that might work. And so it's constantly improving that, the UI and the discoverability from that standpoint. The second is continue to grow the content side. So we've talked about podcast, but having more of this original content, having more of a differentiated platform would be a second. The third is we talked, since we've been a public company before, about our ubiquity strategy and making sure that our product works across all other products. And that's been huge for us in an environment where there actually isn't -- there's a huge opportunity for us to kind of work across multiple platforms. And we think that's -- that will continue to be it. And then continue to innovate on discovery and demand and then in different genres, in different areas with new music and podcasting, and then we've got continued growth internationally. I think we have a lot of growth both in our established markets. You've seen that with strong growth in North America and Europe over the last couple of quarters and years, and we still see tremendous growth in Latin America and rest of world. And so as an example, we just launched in Russia. We talked that it was sort of one of the best first days we've ever had. It's been one of the best launches we've ever had in terms of new market launches. We continue to get better at new market launches in terms of the right product market fit and the right go-to-market strategy. And we still think there's an opportunity to continue to grow and expand. Our plan obviously is to be in every market that makes sense for us. And so we're not there yet, and so we hope to get there over time. And so that will also continue the growth trajectory of the business.

Yes. No, that's -- it's really interesting. I mean, you guys have obviously put a lot of investment into technology, particularly around personalization and making just the underlying music product better. That's also something that I think is really hard for investors to quantify the impact of that. How do you go about doing that? Is it an impact on churn? Is it an impact on subscriber acquisition cost? Is there a way that you would have people think about that?

Yes. So it's all of that. I would say if you take one step back, and we've mentioned this in the past, we look at the size and the scale of what we have, and we're bigger than anybody else out there in terms of streaming. Particularly when you add both our subscriber business as well as our free business, we're significantly bigger than any of the major guys we compete with. We also believe that our engagement is anywhere from 2 to 3x what some of the other players have in terms of the engagement they have on their platforms. And so when you add in the fact that we're bigger with the fact we have higher engagement, we get sort of anywhere from 5 to 10x the amount of data onto our platform than anybody else does. And so for us, it's one thing to have the data, but the next thing is actually to be able to do something with the data. And so from that, having that data is what allows us to have what we believe is that better discoverability, that better demand generation, a better experience for you as a consumer. It's why more artists get discovered on Spotify than they do on other platforms. And so all that comes down to the technology and the investment we have in AI and machine learning and taking all this data to create a better product. And again, to your point, do we see it in churn and retention? Yes. Because what we've seen is as engagement has gone up, retention has gone up and churn has come down. So anything we can do to give you a better user experience means you're going to be more engaged. And then we know the more you're engaged, the more you retain and the lower you churn. So it all actually has a sort of flywheel effect of benefiting the business.

Yes. So on the music side, you've spent much of the last year-plus in the process of renewing your relationships with the labels, a process that at least from the outside seemed to take a lot longer than prior renewals. What were your goals going into that process? What were the labels' goals? And where did you end up?

Yes. I think everybody has different goals and agenda to go into these things, as you could imagine. So I'm not going to get into specifics of what we were looking for. I think for us, there were a couple of things. One was, as we've talked about, was sort of being able to kind of lean into and really develop out some of these marketplace tools. And so in -- with Universal leaning in, we feel really good about our ability to sort of grow marketplace over time, grow -- being able to grow the podcast business in the way we want, be able to continue to grow internationally the way we want, opening up new markets. And so there's lots of things that work for us. But for us, it's really about working with the labels to partner with them to continue to grow music and music consumption. And as we've seen, the music initiative continues to grow. Streaming is really the only thing within music that is growing. And as the largest player within streaming, we feel really good about our position there, but it's really just about growing the whole business for everybody to benefit.

Yes, yes. And so when you look at sort of a longer-term relationship with the labels, where do you see the balance between sort of the role that labels play in the music industry and the need for -- an artist's need for labels versus their ability to just work directly with platforms like Spotify?