Why Spotify Stock Plummeted This Week

Key Points

• Spotify’s sales grew 8%, and its free cash flow spiked 54% as margins continued to improve.

• However, slowing premium subscriber growth and disappointing advertising sales led to the stock’s decline this week.

• Spotify may be more of a steady-Eddie compounder than a true growth stock these days, but it still offers outperformance potential, in my opinion.

• 10 stocks we like better than Spotify Technology ›

Shares of audio-streaming behemoth Spotify Technology (NYSE: SPOT) are down 14% this week as of 3 p.m. ET on Thursday following the company’s first-quarter earnings report on Tuesday. Spotify grew sales, free cash flow (FCF), and premium subscribers by 8%, 54%, and 9%, respectively, exceeding Wall Street’s expectations. However, the company guided for total premium subscribers to grow only from 293 million to 299 million in Q2 — below the analysts’ consensus of 300 million — helping spur this week’s sell-off. Further contributing to the drop, Spotify’s ad-supported revenue declined 5%, despite ad-supported monthly active users (MAUs) growing by 14%.

While these are certainly flaws in Spotify’s otherwise excellent earnings report, I don’t think investors should fret over either issue. First, Spotify’s slowing premium subscriber guidance isn’t a death knell. The company is slowly becoming a victim of its own success, much as Meta Platforms and Netflix ballooned to sky-high user counts in a short period of time. It simply cannot go on in perpetuity. The next chapter of Spotify’s growth story comes from its MAUs, subscribers, and average revenue per user (ARPU) slowly inching higher, while the company expands into promising new categories, as it did with video podcasts and audiobooks. For reference, ARPU rose 6% year over year in Q1.

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Regarding the disappointing advertising figures, management announced that it has finally completed rebuilding its advertising stack. Chief Business Officer Alex Norström explained, “and we did that knowing that we would face a bunch of short-term pressure, but that it would unlock meaningfully a much bigger market for us in the long term. Now that transition is done. So now it’s about execution.” This transformation should help Spotify attract advertisers interested in biddable programmatic ads. Investors should watch to see that ad-supported revenue grows in tandem with ad-supported users going forward.

Trading at a reasonable 25 times FCF, the “maturing” version of Spotify looks like an interesting investment opportunity to me. With margins rising as Spotify continues to scale, the company’s transition from growth stock to steady compounder shouldn’t affect its outperforming potential just yet.

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Josh Kohn-Lindquist has positions in Netflix. The Motley Fool has positions in and recommends Meta Platforms, Netflix, and Spotify Technology. The Motley Fool has a disclosure policy.