Spotify Stock Is Profiting off an Increasingly Audio-First World

Spotify is moving past music to build its audio empire

Thus far, Spotify (NYSE:SPOT) stock has not been particularly successful yet. The company debuted with its unorthodox direct listing in 2018, and shares kicked off trading around $160 before advancing toward $200.

Spotify Stock Is Profiting off an Increasingly Audio-First World
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That’d be it for the time being, though, as Spotify stock went on to lose nearly half its value over the course of the year. Shares bottomed at $107 in December 2018, and returned to the $110 level last fall. Spotify stock sharply rallied on an upbeat earnings report, but has gotten mired down again to start 2020.

What’s held back the audio streaming company so far? Analysts simply don’t believe Spotify has a competitive advantage. Many companies, including Amazon (NASDAQ:AMZN) and Apple (NASDAQ:AAPL), are using music as a low-cost add-on to improve their overall platform’s desirability. Music isn’t a key part of profits for those companies. Thus, in theory, they can undercut Spotify — which doesn’t have another profit stream aside from audio.

However, this viewpoint is selling Spotify short. Whereas Apple and Amazon are offering music as a commodity, Spotify is giving its users a much richer experience. And their recent investments in podcasting show that Spotify has a deeper commitment to the audio platform.

That said, here’s how Spotify thinks it can outlast its competition in coming years.

Audio First For Spotify

Last year, Spotify CEO Daniel Ek made a persuasive argument for the company’s business model and role in society. He wrote that:

“Consumers spend roughly the same amount of time on video as they do on audio. Video is about a trillion dollar market. And the music and radio industry is worth around a hundred billion dollars.

I always come back to the same question: Are our eyes really worth 10 times more than our ears? I firmly believe this is not the case. For example, people still spend over two hours a day listening to radio — and we want to bring that radio listening to Spotify, where we can deepen engagement and create value in new ways. With the world focused on trying to reduce screen time, it opens up a massive audio opportunity.”

That’s simply a massive valuation gap. Is audio really only worth one-tenth what video is? Well, there is some logical explanation for the wide disparity.

For one thing, it’s been difficult to monetize audio. Radio marketing has been inefficient, as it’s difficult to know who is hearing your advertisements and determine whether those ads are converting into sales. And, it’s been almost impossible to sell audio content — such as CDs — since the early 2000s. Many consumers think music should be free.

The Times Are Changing

With the majority of audio dollars now being digital — and that share growing every day — things are changing. Now, audio marketers are able to advertise with the same degree of precision that other forms of online marketing can.

Spotify has a very good data set of what its long-time users enjoy. And now, with the platform broadening to podcasts and other audio beyond copyrighted music, the opportunities grow even further. Identifying a listener of, say, 1980s music, bluegrass music, gardening podcasts and cooking shows gives an advertiser a pretty detailed set of data points to use. And if that Spotify data is combined with information from other social platforms, such as Facebook (NASDAQ:FB), you have all sorts of granular info to work with.

Additionally, there are so many more ways to use data going forward. Big data and machine-learning artificial intelligence should be able to decode things such as the playlist names and gather useful information from it. Figure out when your users are engaged in specific activities — waking up in the morning, playing sports, going partying, etc. — and you have precise information for marketing.

For another example, in the future, Spotify may be able to use geographic information for improving user experience. Walk into a museum, and it starts playing an audio tour of the displays straight into your AirPods. Land at a farflung airport, and Spotify could automatically suggest podcasts covering local history and attractions.

AirPods Are the Inflection Point

Spotify has been telling investors that audio will catch up to video. Until recently, there wasn’t a clear catalyst to push this transition. However Apple’s AirPod’s are elevating audio’s role. Now, it’s common for folks to wear their AirPods all day, and listen to audio at times when they previously would not have been paying attention to anything. It’s so commonplace, in fact, that some younger people don’t even take out their AirPod’s when they are in social situations.

Society is normalizing the presence of audio throughout much of the day now, which creates more listening occasions. Meanwhile, the quality of the audio experience is getting far better. Spotify has nearly all the recorded music under the sun available on demand. If that weren’t enough, it’s better than radio in terms of offering curated playlists offering a wide range of content from mainstream hits to detailed romps through obscure musical niches.

Its algorithm-driven recommended music playlists, such as Discover Weekly, are personalized for each user and become surprisingly accurate over time. Many people say Discover Weekly alone is worth the Spotify subscription price. And now with podcasts, Spotify can find the best entertainment and information content in the world for you in particular; it’s a huge leap from listening to whatever was on the AM talk radio station.

Spotify Stock Takeaway

There’s no guarantee that Spotify will ever be able to make CEO Daniel Ek’s vision a reality. Video plays a huge role in our lives, and it’s probably too optimistic to assume that audio will ever catch up to digital entirely.

That said, it’s not at all far-fetched to think that audio revenues could get from 10% of video to something like, say, a third though. And that would make Spotify wildly successful as long as it remains the market leader.

Now, to be clear, this will be a multi-year process. It’s not all going to happen in 2020. Spotify stock isn’t cheap here, particularly on an earnings basis; it’s at 50x trailing earnings. At 3x sales, however, it’s inexpensive compared to the leading video streaming companies. And if you buy Ek’s argument, that’s especially mispriced given that audio has far more room for monetization from here than video.

One thing is for sure though: Spotify is one of the largest and most well-known consumer brands that is still selling for a mere $25.4 billion market capitalization. It’s not hard to imagine the stock price doubling — or more — in coming years with any improvement in profit margins.

At the time of this writing, Ian Bezek owned FB and SPOT stock. You can reach him on Twitter at @irbezek.


Article printed from InvestorPlace Media, https://investorplace.com/2020/02/spotify-stock-profiting-audio-first-world/.

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