Spotify’s bearish $ 1 billion takeover | Financial Time


Updates from European companies

Investors care about what companies do with their capital. Some just want management to give it back to them. So, year after year, names like Coca-Cola, Johnson & Johnson and British American Tobacco use their profitable lines of business to do just that, whether it’s in the form of dividends or share buybacks.

The flip side of this implicit market are companies that have seemingly limitless growth ahead of them. In this case, investors want management to reinvest every dollar, whether it’s generated through cash flow or raised in the markets, into the business. For a few examples, think of software as a service company Snowflake or early stage Google.

Problems arise when a management team think outside the box: a successful name begins to sacrifice profits to grow an unproven line of business or, in the case we’re about to discuss, a company that has told. to investors a blue sky story decides she would rather just give the money back.

Place the logical inconsistency of this Friday press release:

Spotify Technology SA (NYSE: SPOT) (the “Company”) announced today that it will launch a share repurchase program beginning in the third quarter of 2021. Repurchases of up to 10,000,000 shares Ordinary of the Company have been authorized by the General Meeting of the Company. shareholders, and the Board of Directors has approved such repurchases up to an amount of $ 1.0 billion. The repurchase authorization will expire on April 21, 2026. The timing and actual number of shares repurchased will depend on various factors, including price, general business and market conditions and alternative investment opportunities. The buyback program will be executed in accordance with the Company’s capital allocation strategy, which will continue to prioritize aggressive investments to grow the business.

“This announcement demonstrates our confidence in Spotify’s business and the growth opportunities we see over the long term,” said Paul Vogel, CFO of Spotify. “We believe this is an attractive use of capital, and based on the strength of our balance sheet, we continue to see many opportunities to invest and grow our business.”

Yes, for Swedish music industry bug Spotify, buying back $ 1 billion in stock – rather than investing the money in research and development, marketing, or capital spending – is apparently consistent with “confidence” in its long-term growth prospects.

It might make more sense to spend four times your free cash flow on a buyout if Spotify’s stock was stolen. But despite falling 44% from its highs in early February, the streaming giant is still trading at four times its revenue eventually. Compared to other subscription companies that may seem cheap, until you consider that its growth rate is only 18% and its gross margins – at 26% – are about a third of most subscription software companies.

Yet the issue here is not so much the price paid for Spotify’s stock, but what it says about Spotify’s growth prospects.

Since February 2019, Spotify has sold the story that it is becoming the one stop shop for all things podcasting. The logic makes sense: attract the best audio talent, build a superior advertising model around it, and start generating the kind of Facebook-style digital advertising profit margins that it struggles to conjure up with its music offering from. base as podcasting takes off.

Capital allocation followed this narrative. Over the past two and a half years, the company has lost $ 1 billion to find exclusive talent – such as controversial podcast host Joe Rogan, who was hired for $ 100 million – and acquisitions, such as Gimlet Media, Anchor and Megaphone. . Not to mention a research and development cost that has always hovered around 10 percent of sales.

So the question now is: Does the buyout signal that Spotify simply doesn’t have things left to spend money on that will help it grow? Users of its music product, which still lacks relatively basic features like the ability to shuffle albums, and lags behind competitor Tencent Music in social functionality, might disagree. Investors might not care, given the apparent strength of the service, but a rapidly improving music offering could also help it potentially raise prices.

On podcasting, chief executive Daniel Ek signaled on last year’s fourth quarter conference call that he would focus more on developing his own capabilities rather than buying podcasts, and this appears to be the case with its new monetization offerings for creators. There are early signs it’s working: Spotify’s second-quarter results showed ad-supported revenue doubled year-over-year to $ 275 million, thanks in part to podcasting.

Yet despite these encouraging signs, investors may find it difficult to escape the lingering feeling that Spotify’s $ 1 billion buyout signals that it is running out of time to rush. Perhaps this is a sign of confidence – that the business is doing so well that there is simply no other use for the money. The market certainly thought so, with its stocks closing 5.6% higher on Friday.

But with its top-line growth starting to level off and its GM arguably distracted by its takeover of Arsenal, this seems like an increasingly optimistic view to take.

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