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spk01: Good morning. My name is Julianne and I will be your conference operator today. At this time, I would like to welcome everyone to Spotify's Q2 2023 earnings call and webcast. If you require operator assistance at any time, please press star zero. I would now like to turn the call over to Brian Goldberg, head of investor relations. Thank you. You may begin your conference.
spk03: Thank you, operator, and welcome to Spotify's second quarter 2023 earnings conference call. Joining us today will be Daniel Ek, our CEO, and Paul Vogel, our CFO. We'll start with opening comments from Daniel and Paul, and afterwards, we'll be happy to answer your questions. Questions can be submitted by going to slido.com, S-L-I-D-O.com, and using the code hashtag SpotifyEarningsQ223. Analysts can ask questions directly into Slido, and all participants can then vote on the questions they find the most relevant. If for some reason you don't have access to Slido, you can email investorrelations at ir at spotify.com, and we'll add in your question. Before we begin, let me quickly cover the safe harbor. During this call, we'll be making certain forward-looking statements, including projections or 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 differ because of factors discussed on today's call, in our shareholder deck, and in filings with the Securities and Exchange Commission. During this call, we'll also refer to certain non-IFRS financial measures. Reconciliations between our IFRS and non-IFRS financial measures can be found in our shareholder deck. in the financial section of our investor relations website and also furnished today on form 6K. And with that, I'm going to turn the call over to Daniel.
spk04: All right. Hey, everyone, and thank you all for joining us. I hope you all had a chance to review our shareholder deck. And as you can see, it was a very strong quarter. We beat our own expectations again across both MEU and subs. And in addition, it's really gratifying to see the outperformance and growth that continues to come from markets all over the world. So let me share some more context on the growth this quarter before we go into what it ultimately means for the business. So this quarter netted the highest MAU growth in Spotify's history. And as a point of comparison, our growth this quarter was 36 million compared to Q2 of 2022, where we saw MAU growth of 19 million. And this re-acceleration is significant and shows that our investments in adding podcasts and improving our platform and user experience are paying off nicely. I've talked before about the fact that the biggest driver of our subscriber growth comes from users who start on our ad-supported service. It is a really powerful funnel where the more our users discover and engage, the more they're willing to pay for an enhanced experience. And with six quarters of MAU outperformance, we are capitalizing on this momentum and it's proving to have a meaningful effect, helping us achieve 10 million net new subscribers this quarter. 3 million more than we originally anticipated. So now let's talk about revenue growth. There are three ways for us to drive revenue growth. We can grow our users, we can create new business with new revenue streams, and we can increase revenue per user. Our preference among them is to focus on growing the overall number of consumers on our platform, as this gives us scale advantages and retains optionality for the future. However, we've also been clear that there will come a time when price increases become a more important tool in the toolbox. And to that end, as most of you are now aware, yesterday we announced broad price increases across more than 50 markets, including most of Europe and North America. And we've carefully awaited this decision, but we felt the timing was right. We've expanded value to price significantly by meaningfully improving our content offering, and we continue to enhance the user experience and lower churn. And over the past few years, we have learned a lot as we've conducted over 50 price increases already. And this experience, coupled with our strong offering, put Spotify in an excellent position to make this move. And while this won't impact revenue per user much up until the end of Q3, we expect it to have a meaningful impact on Q4 and beyond. And finally, we continue to make progress on improving efficiency across the company. As Paul will explain, we have taken several actions to further streamline our operations and reduce costs, which we largely outlined in Q1. These moves position us to become a much stronger business in the future. Despite making these changes in an effort to create more efficiency, we have still managed to increase the overall velocity of experiments and new improvements. And this gives me a lot of confidence. So looking back at Spotify, the lesson we have learned is the daily progress, even if faint, is more important than the occasional clash of brilliance we've had. Therefore, I believe that the speed of iteration is perhaps the ultimate leading indicator of our long-term success. And with that, I'll turn it over to Paul for more detail behind the numbers, and then Brian will open it up for our Q&A.
spk02: Great. Thanks, Daniel. And thanks, everyone, for joining us. I'd like to add a bit more color on the quarter and then touch upon the broader performance of the business and our outlook. Overall, our user and subscriber growth was exceptionally strong in the quarter. Users grew by 36 million to 551 million, while we added 10 million new subscribers, finishing at 220 million. Both MAU and subscriber growth accelerated from Q1, driving the highest quarterly user growth in our history and the best Q2 for subscribers on record. On the revenue front, we grew 11% year on year to 3.2 billion during the quarter. Our FX neutral growth was 14% and accelerated versus the prior quarter's result. Let me turn now to gross margin. As I previewed during the Q1 call, we expected to incur charges in Q2 related to our ongoing efficiency efforts. In the quarter, we took steps to shrink our real estate footprint and rationalize certain areas of our podcasting business. We also exited our Soundtrap marketplace business. We expect all these moves to have a positive impact on our rate of profitability on a go-forward basis. However, they did result in roughly $135 million of net charges in the quarter, with $44 million flowing through gross margin and $91 million flowing through our operating expense. About $25 million of these charges were cash-related. With that context, adjusted gross margin, which excludes these charges, was 25.5% and in line with expectations. As a reminder, we guided gross margin, excluding potential one-time charges. Adjusted operating loss of 112 million was better than planned, helped by lower marketing and legal spend, which more than offset higher than anticipated social charge accruals. Free cash flow was positive 9 million in Q2. Looking ahead to third quarter guidance, we are forecasting 572 million MAU, an increase of 21 million from Q2, and 224 million subscribers, an increase of 4 million over Q2. We're also forecasting 3.3 billion in total revenue, a gross margin of 26%, and an operating loss of approximately 45 million. First, looking at user and subscriber growth, we've had an outstanding start to the year and we see momentum continuing into the back half of the year. And to address a likely question right up front with respect to price increases and subscriber growth, our data would suggest that historical price increases have had minimal impact on growth. But given the breadth of this change and the significant outperformance in the first half of the year, there is some conservatism baked into our outlook for Q3. We do expect our net ads through Q3 of this year to be higher than at the same point last year, roughly 30% better. In turning to revenue, we are forecasting a 600 basis point headwind to growth, given the continued strengthening of the Euro relative to the dollar, and those trends appear to be continuing into Q3. Excluding this effect, our constant currency revenue will be closer to 3.5 billion, reflecting our expectations for accelerating currency neutral growth to 16% year on year versus the 14% growth we delivered in Q2. We anticipate further revenue growth acceleration in Q4 relative to Q3 on a currency neutral basis due to a full quarter benefit from price increases. For clarity, the recently announced price increases will have a small impact on Q3 revenue given building cycles and timing. Q4 will get a full quarter benefit and therefore the greater impact on accelerating revenue. From a profitability standpoint, we continue to expect a sequential ramp in margins through the balance of 2023 as well as improvements in our operating loss. And with that, I'll turn it back to Brian for Q&A.
spk03: All right, thanks, Paul. Again, if you've gotten any questions, please go to slido.com, hashtag SpotifyEarningsQ223. We're going to be reading the questions in the order they appear in the queue with respect to how people vote up their preference for questions. And our first question today is going to come from Justin Patterson on efficiency. Daniel and Paul, efficiency has been a major theme for you in 2023. As you look at actions taken this year and consider your long-term margin targets, where do you see opportunities to be more efficient while still ensuring you have the right level investment to support revenue growth?
spk04: Yeah, I'll start and maybe you, Paul, can chime in. So I think, again, if you go back to some of the remarks I had at the beginning of the year, really two things. One, the most notable thing is that the hurdle for any new investment that we're going to make is going to be significantly higher going forward. And in particular, I think you should view our investments in our own OPEX as a great indicator of that. And then the second part is I talked about this in the beginning of the year too, which is we probably got a little bit ahead of ourselves in that investment. And so we've right-sized our staff. Related to that. So I feel good, much better about the overall optics and where we are. So I think going forward, you should just assume that the numbers on a percentage of revenue should come down because we're going to not increase our revenue. optics to the same extent that we have had in past years. And maybe just the final bit here is we invested on the backdrop of all the amazing leading indicators we saw. And I do want to remind all of you as investors as well, the phenomenal now six quarters of outperformance on me you growth uh that is now translating really nicely into subscriber growth as well so i feel really good about those investments but we obviously um you know probably got ahead of ourselves a little bit on that and now we're going to stay steady on the investments we've already made because we're seeing great results from them i don't know if you want to add something paul
spk02: Yeah, I'll just add a few things. One, I mean, if you look at some of the changes we made both this quarter and the beginning of the year, Q2 was the last quarter where we had headcount higher year over year. We expect our headcount year over year to actually be down in Q3. You know, we'll see where that goes moving forward. But as Daniel said, we're continuing to become more efficient. We're continuing to find ways to innovate and launch new products and experiment at the current level. So we feel really good about where we are. So you will see some of that efficiency have even more of an impact in the back half of the year with respect to the OPEX.
spk03: All right. Our next question is going to come from Justin Patterson again, this one on AI. Daniel, we've started to see AI extend beyond discovery into areas like the AI DJ. What additional opportunities do you see for AI across the product portfolio? How should we think about AI potentially influencing podcasts or even audiobook growth over time?
spk04: Yeah, I think we're in the early innings of even seeing all what's potential. And I assume with the question that you're talking more about generative AI than not. But for the purposes of this, I think there's almost three major applications. We still think there's enormous benefits of just core machine learning or AI improvements in discovery. So that's going to be massive. And you can see some of those improvements already paying off very nicely in higher engagement and higher retention, which then lowers churn. This is a trend that's been going on now for many years. So I still think that there's quite a lot that we can do there that will improve engagement and retention over time. And then the second bucket, of course, comes into generative AI. And AI DJ is a phenomenal product. It's probably one of my personal favorites over the last few years that we have developed. And we've seen really strong consumer interactions with that. And that just talks about the ability for us to contextualize and personalize all the amazing content that we already have on the Spotify platform. So I think you're going to see a lot more of that coming where we can contextualize and personalize content across the entire platform to make it more accessible. So an easy way to think about it as an investor is if you think about podcasting today, it's really high quality content, but it requires quite a lot for you to get into new podcasting. So one very easy thing we can do with these new AI developments is, of course, summarize what these podcasts are about. And by doing so, you can imagine it becoming a lot more easier to merchandise new podcasts for consumers, which drives in term higher engagement and more growth for creators, which is a really positive thing. And then lastly, I would say, just making the company overall more efficient. And I think this is probably the part that most people are investing in, in the broader ecosystem, but not enough credit yet of understanding among investors is happening. But I significantly believe that we can become a lot more efficient as a company by leveraging AI. So great example of that would be If you think about advertisers today, the cost of generating new advertisements on Spotify is quite a big thing, especially on audio ads. By using generative AI and our tools here, I think you're going to be able to see that we can significantly reduce the cost that it takes for advertisers to develop new ad formats. And that obviously means that you, as an advertiser, instead of having one ad, you can imagine having thousands and tested across the Spotify networks, things that you could easily do today using text. but you haven't been able to do over video or in audio. So there's going to be a lot of those opportunities where we're going to be not just on the consumer side, but really across the entire company become a lot more efficient, which will drive more value for all stakeholders, consumers, creators, and Spotify itself.
spk03: Okay, our next question is going to come from Matthew Thornton on price increases. What does third quarter revenue guidance assume in terms of timing and subscriber guidance assume in terms of churn and gross intake? And do you think a structure is in place with the content owners to now incentivize regular or recurring price increases?
spk02: I'll take the first part of that. Maybe I'll let Daniel take the second part of that. So the guidance assumes on price increases, the way I think about it is this way. We announced a price increase yesterday. Most people have a notice period, and then the price increase won't take effect until the next billing cycle. So for most subscribers, they won't see a price increase until September. which is why I said it will have a minimal impact on Q3 because most of that price increase won't happen until the last month and probably somewhere in the middle of the last month of the quarter. You will see the full benefit of the price increase in Q4, so you'll see a bigger acceleration in ARPU and revenue growth in Q4 than you will see in Q3. In terms of churn and gross intake, it's not something we comment on. I will go back to my comments I made in my prepared remarks, which were definitely there's some conservatism baked into the Q3 numbers. If you go back and look historically, and we've said this publicly many times, in the past when we've raised prices, we've seen very positive results. We've seen minimal impact on gross intake. We've seen minimal impact on churn or variations in churn from trend. And so there's no reason to expect that wouldn't be the case. This is obviously a much larger and more broad based change than we've made in the past. So there's definitely some conservatism baked into kind of how Q3 rolls out. And then maybe, Daniel, I'll turn it over to you for the second half of that question.
spk04: Yeah, so I think the second half was around the structure that allows regular and recurring price increases. And I commented on that already. I think, again, we have in the past done over 50 already, so I don't want to overstate this price increases. But obviously, this is the biggest one we've done to date. And I think... I addressed it in my opening remarks, but I believe you should all look at it as a tool in our toolbox. But the overall goal is per market basis, grow our revenue. And we're trying to grow it at 20% as we've outlined already in our targets. And so there's three ways to do that. One is obviously to grow the number of consumers. That's our preferred way. of doing that and keep the value to price super high because that creates optionality. But when user growth slows down, take Sweden as a great example, where we're already at a massive part of the population there, then price increases becomes an even more important tool in the toolbox. And then thirdly, of course, we have growing revenues through our new verticals or new products, which is also another tool we have in the toolbox, but of course, more longer term. So yes, I think you should assume that this is a tool we now have in the toolbox.
spk03: Okay, we've got another question from Matthew Thornton on the ad market. Can you talk about the performance and linearity of the ad market through second quarter and into third quarter? And can you provide any updates on span?
spk02: Yeah, so the quarter on the outside was pretty solid relative to our expectations. We did see some improvement throughout the quarter, so definitely the back half of the quarter was better than the first half, although not that out of line with our expectations. We expect advertising to be even better in 3Q, which is baked into our guidance. So on an FX neutral basis, a better quarter from a growth perspective in Q3 than we saw in Q2. And then progress at Spam. Spam was a big driver of the outperformance. It definitely helped podcast ad revenue. Podcast ad revenue got better throughout the quarter as well in terms of growth rate. So Spam was a big contributor to that.
spk03: All right. Our next question is going to come from Michael Morris. In the past, you've referenced seeking a win-win scenario with labels prior to raising consumer pricing. Can you share detail about the win you achieved in conjunction with yesterday's announced increase? Will you pay royalties on the incremental revenue at the same rate as your current agreements?
spk04: Yeah, I'm not going to dive into specifics about anything in our agreements as per usual. But I will say that we're, of course, very pleased with where we are with our partners and we feel really good about the situation. And that I believe, again, I think I mentioned this in the past, but I feel like quite often this is being put in a situation where this is kind of a win-lose relationship between our partners and us. That is not how we see it. We very much see it as, again, not a zero-sum game, but a growing pie. And the goal is for both parties to be win-win. And I feel like we're at a situation where we are at a win-win. with all of our rights partners. And I feel really good about the growth of Spotify, but also the growth of the overall music economy. And that's really the kind of main focus for us at Spotify is we're really trying to create a win-win. And I feel like that's the part that's often missing, but we're really pleased with where we are, both with this price increase and our overall position with our partners.
spk03: All right, our next question is going to come from Mario Liu on ARPU. ARPU declined 3% year-on-year, excluding currency in the quarter. Can you help break down the contribution from product and market mix and whether the price increases announced last week will be able to offset these two negative impacts by Q4?
spk02: Yep. Thanks, Mario. So the the biggest impact on the quarter was the product mix. That was the majority of the impact to the three percent decline. FX neutral on ARPU looking out. The price increase will moderately help in Q3. We're looking for FX neutral ARPU kind of flat to down 1% in Q3. And then we should expect a meaningful improvement in FX neutral ARPU in Q4 as we get the full benefit of the price increase in the Q4. So minus three this quarter, call it zero to minus one in Q3. And then nicely positive. We don't obviously guide the Q4 at this point, but nicely positive in Q4 of this year.
spk03: Great. Next question from Rich Greenfield. TikTok recently reached a new supposedly groundbreaking deal with the labels. How should we think about what this means for competition with Spotify?
spk04: Well, again, competition is nothing new. It's something that we've been dealing with since the start of the company, and we've had many formidable competitors. And obviously, TikTok is one. All of that said, I think The results this quarter kind of speaks for themselves with the outperformance in users and outperformance in subs. I feel really, really good about the investments we've been doing over the past few years in improving our competitive position and improving the consumer value. that we're having to our consumers. And yeah, I mean, again, competition isn't anything new. It is expected, especially in such a large category that so many consumers care about, like music. So yeah, really nothing to add more than that.
spk03: All right. Our next question is going to come from Mario Liu on podcast economics. The second quarter podcast gross margin improvement. Can you give us a rough ballpark of where we are right now versus a timeline of break even within the next year?
spk02: Yeah, we continue to see improvements, the rate of improvement on the gross margin on the podcasting side. I would say that relative to all the expectations we gave at the investor day, we're right on track. We expect to hit all the targets we laid out for podcasts and podcast break even and improvement in margins. And at a higher level, I think we feel really good about all the targets we laid out at the investor day.
spk03: All right. And then we got another question from Rich Greenfield. Everyone was expecting you to raise the base single user price, which has never gone up. But you also pushed through a $1 increase on the family plan in April of 2021. How do you think about your family plan pricing power versus the base tier?
spk04: Yeah, I mean, again, it's phenomenal value really for consumers, both the standard tier, but obviously the family pricing as well. So we feel it's a great offering. And as we said before, We've been in the past waiting and kind of reviewing and building up more value. And that's really how you should think about it. We are trying to build more value towards our consumers. That's where we start. And then when we feel like that gap, the value to price ratio is getting out of whack. You should now assume that we have a new tool in our toolbox, which is we have the ability to raise prices and We feel good about doing that. And the family plan, of course, is an even better value proposition relative to the standard plan. So that's another tier that we have the opportunity to raise prices on.
spk03: Okay, we've got a question from Matt Thornton on streaming economics. Do you think the music streaming market will get to a structure where higher value is ascribed to premium music streams versus perhaps other content that may be perceived as less premium?
spk04: I think what you're discussing is probably a variant around artists centric rather than the sort of difference between ad supported and premium parts. And obviously this is kind of a big contention. How do we make the economic model fair for as many participants on the platform. And we're always making tweaks to that model. We're always reviewing how we can make the model more fair. And we're in constant dialogue with our partners around how we can do that. I think the expectation from an investor point of view, however, is that it doesn't actually meaningfully impact Spotify's economics one way or the other. This is more around how we divide the pie from the rights holders and to what artists or what groups of artists we should do it. But most studies we've done in this is that even if you change it on a user centric or an artist centric approach, it seldom leads to these gigantic differences that most people perceive it to do. So, again, we're in constant discussion with our partners, and we're always sharing data about what we see, and they're sharing data back, of course. But we're always open to hear how we can make the system more fair to more artists.
spk03: All right, next question from Maria Rips. Could you comment on the June Bloomberg report that indicated you are planning on launching a Hi-Fi tier later this year? What are your expectations for engagement and plan switching across different pricing tiers if and when you release this offering?
spk04: Yeah, we don't really have any announcements to make on this call around any new sort of features or things. We tend to do that directly towards consumers when we have them. What I will say, of course, is that HiFi remains something that we think has value, but it's something that has value to us. And probably more aficionados in the streaming market. And we're interested in obviously how we could use that as one tool to in the future increase our value even further. But we don't have anything to announce at this point.
spk03: All right, next question from Matt Thornton on the user interface. What impacts have you seen, engagement, retention, conversion, or anything else from the new user interface, and how far along are we in the rollout of that new UI?
spk04: Yeah, so again, the user interface for those that may not be aware that I believe Matt is referencing is the one we announced at StreamOn. And as we outlined back then, it was the single largest shift that we've ever made to the user experience, both on a look and feel, but more importantly, on the back end because we had to re-architect all the signals that our machine learning systems were using as well. And what we're seeing is pretty good results. We have made lots and lots of tweaks based on user feedback, which is normal. And We are making those tweaks. We're also making lots of tweaks on our recommendation based on this new signal. So I feel really good about where we are, but it's an entirely new system. So we're being very, very careful about how we're rolling it out. And you should expect. And most of it to be rolled out over the remainder of this year with this new UI. We feel good about it. And you should expect long term that engagement will increase. And of course, if engagement increases, that tends to lead to better retention, which in turn tends to lead to better conversion over time as well.
spk00: Okay, we've got a question from Maria Rips on podcasting.
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