Spotify’s recent investor day impressed Wells Fargo analyst Steve Cahall enough that he upgraded the stock from Underweight to Equalweight and increased his price target from $101 to $124.
According to Cahall, in a note to clients, the company, “laid out a more profitable company than we have modeled historically. Given the strength in user and revenue growth we’re willing to concede some margin expansion opportunity, and give management time to execute.”
That day in midday trading, Spotify rose 7%.
However Cahall warned that the company, “must execute to keep us convinced or turn us more bullish.”
Cahall went on, “We’ve never doubted SPOT’s user and revenue growth, so we can be convinced of a stronger margin inflection. We could turn more bullish if the margin story really starts to shine through. On the other hand, if margin progress feels like it’s being pushed out then we may have to revisit our long-term outlook.”
Spotify surged during the investor day last week when it revealed it had $215 million in podcast revenue last year. It was the first data released since the company had spent $1 billion on the unit.
Spotify CEO Daniel Ek said they were, “performing much better than you probably suspect.” He noted that the overall gross margins of 28.5% are getting very close to the company’s long-term goal of 30% to 35%. So far what has held them back, according to Ek is the need for aggressive spending on both the podcast and the audiobook side of the business.
He also noted that he expects the podcast side of the business to ultimately have margins in the range of 40% to 50%.
On the music side of the business, the management team said they expect that as they begin to work harder on Marketplace, where artists are allowed to pay Spotify to promote their music, they expect gross profit operating leverage to grow 75 basis points on average.
Cahall noted, “Margins are the real debate since SPOT and peers live under the thumb of a music cartel, and we’ve figured music to be the vast majority of engagement.”
