Q4 2019 Earnings Call
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Welcome to sacrifice <unk> fourth quarter 2019 financial results question and answer session copy of the company's shareholder letter issued pre market open today, it's available on the Investor Relations website investors start Spotify Dot Com. This call is being recorded in an archived replay will be available on the IR site apps to get then conclude.
I'll now turn the call over to pull Vogel Chief Financial Officer, you May now begin your conference.
Great. Thank you and welcome to Spotify fourth quarter 2019 earnings Conference call today's call will follow a similar format. The prior quarters, we'll start with only opening comments from our CEO Daniel back after the remarks, Daniel and I will be happy to answer your questions.
Machines can be submitted either through the widget alongside the webcast where by emailing directly to IR at Spotify Dot com well get as many questions as we can and the call will last approximately 30 minutes.
Let me quickly cover the safe Harbor.
This call we will make forward looking statements, including projections are estimates about the future performance of the company. These statements are based on current expectations and assumptions that are subject to risks and uncertainties actual results could materially different because there are factors discussed on todays call and then our letter to shareholders and filings with Securities Exchange Commission. During this call we refer to certain non IRS financial measures.
Reconciliations between our IRS and not I first financial measures can be found in our letter to shareholders and the financial section of our Investor Relations page of our web site and also first today on form 6K.
I will turn it over to Daniel.
All right, Hey, everyone and thanks for joining us. So Q4 was another strong quarter and 2019, a strong year as the business once again met or exceeded our guidance by pretty much every measure. So we're very pleased with the momentum we have entering 2020.
In 2019, we outlined ambition to expand beyond just music and we made significant significant progress in our goal to become the worlds number one audio platform.
Just a year ago, we announced the acquisitions of gimlet, an anchor and subsequently part cast and today Weve doubled down on our audio strategy with our acquisition of builds and then the ringer, bringing a new group of highly loyal sports and pop culture fans to the platform.
We also shared today, but in the fourth quarter, we saw approximately 200% growth in podcasts hours swing year over year and its clearer than ever to us at podcast listening is driving overall health in our business. The pension is off in each of our top 20 markets and we know that retention leads to higher conversion.
Okay and lifetime value.
And as we said, we're just getting started.
And do not only to the acceleration in growth, we're seeing at the top of the funnel, but really the improved engagement overall I'm more confident than ever in our direction and in our strategic pad in audio.
History has shown us and while we're usually right in predicting the outcome of our strategy exact timing can be uncertain.
So in 2018 for instance, we indicated that our focus was on driving and the you growth and we invested in product and innovation and launched an all new free experience on our AD supported tier to give users more engaging tailored experience and why we saw positive leading indicators. It really took until 29 team for the.
Benefits of our investments to pay off in a big way and we've now seen three consecutive quarters of accelerating Emmy you gross including our results today and we now have 271 million monthly active users and that's more than a quarter of a billion users and user growth is re accelerating even in our.
Most mature markets like the Nordics.
For a platform all of our slice. This reacceleration in EMEA you growth is a rare and a powerful signals for future revenue growth and as a result, we feel confident we made the right investments then and there were making the right investments now, but we have been fairly conservative in including potential increased benefits into our 20.
20 guidance, because we're cautious in our ability to predict exact timing.
I am however, very confident these investments in audio and improving our platform will result in faster subscriber and revenue growth just as it did in our user growth and in greater user engagement between note drives improvement in churn and lifetime value.
And as we grow we continued to connect artists with fans on a scale that as never before existed both through cultural moments like our year end wraps campaign and also through developing tools and services in our marketplace offering.
I answered recommendations are first promotional service for artists and labels have perform impressively and we're encouraged by both to creator and user response. One example of the potential this tool in creating awareness and scale for an up and coming in the artist is the recent success of Caroline Stripey Red who leverage sponsor.
Recommendations and opened at number one.
We're still very early in this effort and S. adoption picks up among our partners. We expect the growth rate the pick up as well and become a meaningful source of gross profit answered in the coming years.
So to summarize.
I'm very pleased with a quarter and confident in our momentum entering 2020, we will continue to invest in our podcast efforts as we're seeing that our strategy is having tangible results on our business and given that we will continue to invest for growth, let's now open the call for questions.
Okay. The first question, we have as from Justin Patterson at Raymond James is for Daniel Daniel last year, you articulated Spotify audio strategy and engagement metrics and have trended nicely since that time.
Could you talk through how engagement is trending in both English in non English content.
In the Ringer is a high pressure high profile acquisition and a business with large reach an already high cpms should we be viewing this content becomes exclusive or do you see value derived through growing global reach and improving cpms.
Yeah.
So first off we're very pleased with the overall growth of podcasting with 200% year over year gross and engagement and that's a global phenomenon, it's not just to us and all of them and we see the similar trend that we do without sort of breaking out specific markets.
Everywhere else in.
Podcasts users not only our and more engaged overall.
But.
Because of that engagement. There are also listening to more music. So it's really just a very very healthy.
User trend that we're seeing in that user trends.
Yes, I said in my opening remarks, we think leads to higher lifetime values as well.
As it relates to the second question around the Ringer and what we're gonna do.
We're still opportunistic as we think about it but I think the best answer I can give this.
Up level. This conversation and think 10 years out I think this the trend that we're investing in is a radio is moving online because users get a much better user experience. It's on demand its tailored to their needs and what we really did with the regular I think as we bought the next dsps and we thought.
That's going to be a tremendously valuable property as we look ad.
The development of sports over the next decade, and the billions of people that will start listening to audio. So we're just very excited about it and.
Yeah, we will invest and that trend.
The next question is from ERC shirt and that yes.
There are ways to unpack the components of gross margin full year guidance headwinds tailwinds and call options. So investors can better understand what might cause under or outperformance over the next 12 months against your long term business goals.
Yes. So if you look at gross margin I would say the high level. There's a couple of trends one we've been pretty consistent that in our most recent round of label negotiations that we didn't expect much change to the rates, where we were paying and in 2020, we expect that the royalty side of the cost of revenue should be pretty consistent with where it was in 2019.
So then it twice when you've got to other factors going one is the benefits from the marketplace and then two would be some near term drag from the investments we're making in content.
And to the biggest factor, that's causing the midpoint or the seventh percentile of our guidance range to be below.
In 20 flavors 19 is that investment of content by you've seen it today with the investment the rigor. We think the benefits of that are pretty strong as Daniel out outline and so somebody will be a function of how quickly we invest how aggressively we invest and how quickly marketplace strategy growth.
The next question is from Ross Sandler at Barclays.
Grew 28 million premiums of net adds for 2019 were higher than the total Apple Amazon and you to combine from what we can tell.
Any high level comments on how you're viewing the competitive landscape right now do you feel better about your position than you did a year ago.
Yeah.
We feel really good about the position, we're having and I think in earlier.
Shareholder letters, you've also seen us comment on the fact that we see.
A much higher engagement among Spotify users than we do with competing services and we think that leads to better.
Better retention and retention in subscription world is really the game.
So we feel really good about where we are.
For the next question is from Mark Mahaney at RBC.
Can you provide any color to how you expect ARPU growth to trend in the future.
Are there plausible factors that could cause ARPU to stabilize and even grow in the next one to two years.
Yeah, Thanks, Mark so.
Our who had been improving we had seen throughout most of a 2019 at the ARPU declines in moderated throughout the year there were down about 5% Q4 down low single digits for the year. There's a number of factors that impact ARPU I would say first at a high level.
We're still thinking about growing top of funnel. The most important thing for us is growing users in growing subscribers and we'll continue to.
Stress growth over a over ARPU and profit in the in the short term.
That being said, there's a couple of factors that impact ARPU moving forward, one is product mix the others geographic mix.
In the Q4 ARPU was negatively impacted by the addition of the 90 day trials.
Which one extension in new in Q4 that we hadn't had before that did impact ARPU, a little bit going into 2020, there's some.
Some parts of that will continue or have continued into Q1 geographic expansion will continue to to waste somewhat on the ARPU and in general I think for a for 2020 were looking at ARPU to be down in the low to mid single digits again.
Great.
The next question is from Maria rips at Canaccord.
Can you address the contribution of the 30 million Euro benefit to gross margin gross profit from the two sided marketplace what were some keep components, including that figure in what were the key drivers incorporated in your target of.
50% growth to what extent you expect sponsored recommendations to start contributing in 2020.
The lux happening in the marketplace.
Department.
And you should act against also recommendation is one of the few products you saw soundtrack dsos and strong subscriber growth there.
You saw us acquiring sound better as part of our marketplace offerings. So it's really a portfolio of different services that are ours that make up of this and as we come into 20 plenty.
You will certainly see us invest more and launch new products and offering and the function of the growth. This really just to take off among our creator base. How many of them are using these tools and services and to what extent they are using these tools and services.
And I would just add and within that 30 million. It's a gross profit number because some of the benefits. We see are on the revenue side. Some of the benefits we see im just directly hit the gross margin in the form of.
Different royalties or license license payment. So that's why we framed it out as a as it gross profit benefit.
Great. The next question comes from John expert at Stifel.
Can you discuss the slow start in the AD supported business during Q4, and a little greater detail and in general how do you see demand for programmatic audio ads developing in 2020 relative to past years, what are some of the impediments to.
The programmatic demand growing faster.
Yes. So Q4, we just quite frankly got off to a slow start we talked about in Q3 some of the impact we had from the migration to a new order management system.
Some of that carried over into Q4, not necessarily the technology side, but just on the momentum we had.
In the first half of a of the core the momentum came back in the second half of the quarter. We hit hit plans for for the back half would just wasn't enough to make up for some of the shortfall in the first half I would say in the programmatic side. The growth has been really strong we continue to be really optimistic about programmatic audio we're investing the technology.
Side.
When you think about the advertising side in Q4 loan we launched dynamic AD breaks so.
So another product to help us monetize the AD platform better on the podcasting side, we announced the.
Addition of streaming audio insertion, which is which we think will help with monetize podcasts going forward as well. So in general we expect advertising to be stronger in in 2020, and we expect it to ramp throughout the year. So the progression should get better, particularly as a as the podcast.
Inventory gross.
Great next question is from Richard Green Greenfield.
It should partners.
Where's your podcast market share in the U.S. today and for younger skewing podcasts, how have you seen enterprise relative to your competitors.
Yeah, it's really hard to get accurate.
Third party measurements of where you stand and podcasting.
But generally speaking what we can say is that we're taking market share pretty much in all territories that we're in.
Internationally.
Implied some third party estimates were now number one.
In many many of those markets already so we're very pleased without developments in the U.S. is tricky to get accurate measures. So I can't really say the exact numbers, but we feel good about that we're taking market share for sure.
Next question is from Lloyd Walmsley Deutsche Bank.
Our conversion rates from EMEA you to premium as you have expanded into newer markets do lot of EMEA growth coming from lower converting markets. How should we think about that impact on conversion rates with strong Emmy you growth over the last few quarters.
Yes, I would say a couple things at a very high level anytime you is growing we feel really good about the health of the business as we mentioned we've seen three quarters in a row of accelerating may you grow so for a company at our size to see I know you growth accelerate over three quarters, we feel really good about.
There are always periods of time, where conversion it looks like it's getting better and there's peers at times or conversion looks like it's getting.
Wider but in general what we've seen in history is that when we see top of funnel growth in EMEA you growth.
We see conversion come to premium overtime, and then we see the benefits on the revenue side from more subscribers and more advertising inventory. So we feel really good about it we don't see anything in terms of geographic mix at this point time that would change.
Our ability to convert or any of those dynamics to three different than we've seen in history. At just the addition, I want to say is.
As we said in our letter the growth Reaccelerated across three of our largest regions North America, Europe and Latin.
So it is really in the EMEA story across all markets not just the sort of emerging markets, which I feel really good abroad and.
Buy sell my estimates now we should be the largest us audio streaming service as well so we feel pretty good about that.
Great. The next question is from Ben Swinburn at Morgan Stanley and this one's for Daniel Daniel can you give us an update on label negotiations and whether marketplace revenues being held back by the lack of agreements with remaining majors.
Yeah, we really don't have anything new to say about when it's US we've said many times before we feel confident about the outcome, but as always with the timing. It is difficult to predict we feel that the discussions however are trending into right direction and as it relates to the marketplace thing.
It's really a question of adoption so to what extent that's impacted by any of the label discussions I don't really know and it's kind of hard to predict.
But.
We certainly expect it to progress over the year and we feel very confident in terms of just.
Look at the leading indicator of just how the tools are performing this is a really powerful tool. So for a music markets here, having something like sponsor recommendation, it's really a dream come true and because of that we expected demand to pick up over the year.
Great. The next question comes from Kevin Reevey at Evercore ISI.
Sales and marketing are ramping up can you give us some incremental color wondering how the new free trial initiatives are impacting LTV to CAC ratio.
Yes, so on the sales and marketing side, there is a lot of a nuance in seasonality right now so.
The 90 day free trial.
Impact sales and marketing because those costs end up on the marketing side.
Historically, when we've had the three months for 99 cents those costs of ended up in the gross margins I assume periods of time.
Where the offer is 90 days for you hit sales and marketing and other peers at times. Its gross margin, so that can fluctuate quarter to quarter, depending on which promotion we're running.
So that sales and marketing line was impacted by having more of.
Those free or trials in Q4, and there will be some seasonality as we as we experiment and continue to adjust promotional activity.
Throughout 2020, and when looking at LTV to SEC Nothing's really changed the numbers have been pretty consistent over the last.
Year or two in terms of LTV to CAC ratio. So we feel really good about continue to add users.
Invaluable users.
Great. The next question is from Stephen call at Wells Fargo.
Presently what sort of economics do you get when a user listens to a podcast that you do not known.
Mike This trend going forward and what percentage of podcast listening is on podcast.
You do versus do not zone.
Yeah, we haven't broken out.
What our share of listening is for our own more original.
Intent.
Versus not but I think it's fair to say that we're just very early in the monetization of podcasts.
Overall and as it relates to third party content I.E. content that we've just license and put on the service right now all monetization is their own and we're not participating in that.
So us as Paul mentioned earlier as you look at the add opportunity going into 2020 part of that is us experimenting with pad tools and.
Ill.
Quite a few of them have the potential of obviously have been very powerful for third party park testers as well.
So long term, we feel very very excited about the opportunity. We think we can bring a hold another game or monetization for pot casters and that that will lead to.
Just the overall growth of podcasting industry.
Great. The next question comes from Heath, Terry Goldman Sachs.
Can you update us on we are capabilities. It in terms of your advertising technology platform.
How much of your AD supported and podcast AD inventory is being sold programmatically and targeted in measured through your AD Tech stack.
How would you characterize the roadmap for your AD technology, particularly for podcasts and what impact do you expect to have did have on monetization of your non subscription listening.
Yeah, I think I can starting to maybe Paul can chime in here.
We're where we obviously have a quite strong track are going to monetizing music audio content monetizing podcast audio content is somewhat different.
Certainly how it works today, but also where we wanted to bring.
The industry too.
So we're developing a lot of those tools some of them you've heard us talking about like the.
ESI inserts.
Which is streaming audio inserts.
And and where we're still early days in terms of the development of those and Trialing of those but.
For us when you look at the overall opportunity it is pretty clear that we don't we haven't added incident levels monetization yet to audio so all the things that you come to expect in video and display in terms of Measurability in terms of.
Just targeting.
A lot of that is lacking in podcast today.
Dan you've seen a time and time again as you add those capabilities you generally can raise cpms across the board because advertisers feel more certain about the results that they're getting.
And if we do that that's going to be a tremendous benefit for all the podcasting creators, but it's also going to be a tremendous benefits was modified.
And just a follow up on that I'd say two other things one in terms of other technology. So dynamic outbreaks is another tool that we've developed.
Which is unique to Spotify and it will allow us to monetize better and also monetize shorter sessions on the advertising side better we haven't historically done a great job of monetizing users who are on shorter session. So this will help with that.
And in terms of the programmatic question, it's about 25%.
Rad revenue and growing and we feel really optimistic about how big programmatic.
Add studios, while our self service tool.
How how well they are doing how much they continue to grow overtime.
Great or next question is from Todd Juenger at Bernstein.
Premium subscribers as a potential as a percentage of total music streaming.
Seem to have leveled off at about half of your total.
Most mature markets in Scandinavia.
The U.S seems to be tracking at a similar percentage do you believe that represents.
What the overall.
Portion of premium looks like in wealthy markets as they approach maturity.
Oh actually I don't think we've we've seen that trend I mentioned in my opening remarks that we're we're seeing a resurgence in user growth in say the nordics as well.
If you look at.
What that means historically is once we see user growth.
That's the strongest leading indicator we have for future subscriber growth too.
And the trend has been continuous all the way, which is that we keep on seeing conversion rates going up.
Across the board Nordic being way higher than the figures you are mentioning it's hard for me to predict whether we're going to see the same trend.
Across.
All other geographies, but we feel very confident that the longer the user space with us the more engaged they are they more likely they are.
To convert into paying customer and that trend keeps on going even 10 years asked our our launch into the territory. So as it relates to newer territories.
You certainly see some of the same indicators obviously the methods in how they are converting our somewhat different based on local geographic nuances.
The next question is from an individual investor.
The management think that social is core to the music listening experience. How important is social feature in driving discovery interaction and engagement in music the spot of high intend to create more so more such social features in the App.
Music is inherently social and we see that in pretty much all of our listening data.
What most people associate with social however, as user to use certain networks of people talking about music and exchanging songs.
We have made a number of those experiments.
In the past and number of those product launches and for some of you that then following us for a long time, you know that we launched spot to find us with Facebook integrations, we had been early pioneers and social we keep on testing.
Social efforts overtime, the strong goal for us in social is to connect artists and fans directly we think thats. The most powerful thing we can do and to the extent.
We invest in social you should expect us in those over user to user communication.
The next question comes from on other individual investor.
What does the response this modify life and outside of the U.S. and how do you see your non us growth continuing to play out over the next several years.
Yes, the response to Spotify light has been strong.
I would say really in all markets, where we have launched its.
Again, it appeals to a very different demographic of users than what we would normally see so we're encouraged by that and we realized us modified grows into more territories.
Data and connectivity.
It's a big impediment for a lot of consumers.
It's something that we take for granted in the Western World, where we have abundant access to sheep data, but we're still dealing with many territories, where where data usage is a real thing so having spotify lights, which really protect.
The consumer a mixed im aware of how much data, they're using and enable them to listen more via Wi Fi.
Has been a strong driver for retention and growth.
Great. This is the last question it comes from Richard Kramer address.
Can you talk about cash flow in Q4 and into 2020 most of the free cash flow seems to have come from working capital in Q4 with lower crude expenses.
Yes, so free cash flow was strong in Q4, so for the full year, we generate about 440 million of positive free cash flow Q4 did benefit from some we have some payments it can tend to be irregular in nature and they don't always happens. The same period of time. There are some of those payments we expect to happen in the first half of 2020, most likely in Q1.
So it's very possible will have a Q1 Q2, but most likely Q1 will have a negative free cash flow, but in general free cash and very strong it was up pretty nicely in 19.
A couple hundred million over over 18, we expect free cash will be positive in 2020 as well we do benefit from from working capital. We don't expect any of those dynamics to change.
And like I said, we will likely have potentially a negative free cash flow in.
Q on just based on the timing of some of the payments that got pushed from Q4 in the Q1, but in general we expect free cash flow to be up to be positive and strong again in 2020.
Great I'm going to handed over to Daniel for some closing comments.
Alright, well in closing, we're seeing that our investments in user experience and then podcasting has resulted in accelerating user growth around the world, giving us a strong quarter at an even stronger year, we see so many positive indicators in the business, including top of funnel acceleration improvements in retention and churn.
And positive engagement trends.
And were making strong progress on our path to becoming the world's number one audio platform and we're confident that our results will prove us right again. Thank you so much for taking the time to do this call with us today.
This concludes today's conference call. Thank you for joining US you may now disconnect.
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