The management of Spotify Technology (SPOT 6.68%) had a lot of great news for investors with its fourth-quarter results, but some might still feel disappointed.
Spotify finished 2022 with 10 million more active users than it guided for back in October. Nearly a half-billion people around the world streamed songs on Spotify in the fourth quarter.
The company also posted strong profit margins, and management said it will rein in investments in areas like podcasts, focusing on becoming more efficient.
But one thing many investors probably were expecting that didn't show up in Spotify's earnings announcement was news of a U.S. price increase.
NYSE: SPOT
Key Data Points
Setting the stage for a price hike
During Spotify's previous earnings call, CEO Daniel Ek said he would like to increase prices in the U.S. and would talk to label partners about it.
The comments followed related price increases by Apple and Alphabet's YouTube. The price of Apple Music's individual and family plans went up $1 per month in late October. The YouTube Premium family plan, which includes YouTube Music, increased $5 per month around the same time.
Earlier this year, Amazon followed suit by increasing the monthly price of its Music Unlimited service in the U.S. and U.K. by $1 and 1 pound, respectively.
Ek said price increases at competitors are good for Spotify, which has better engagement and lower churn rates than Apple, Amazon, and YouTube. That gives it pricing power in and of itself. But if the competition is priced higher, then there's no reason Spotify subscribers would leave the service for a competitor just because of a price hike.
Spotify has implemented price increases in other markets already. Ek said that the company increased its pricing in over 40 markets last year.
But he noted those price increases were in mature markets. In other markets, the company is more focused on growing the subscriber base, so it's important to keep the price point low.
That said, it's hard to argue the U.S. remains a major source of subscriber growth. While Spotify has continued to add subscribers in North America, it's growing faster in Latin America and its Rest of the World regions.
What's more, the top of the funnel (i.e., ad-supported users) is growing much slower in North America than in the Rest of the World, so a U.S. price hike would seem to fit Spotify's strategy.
What a price hike would mean for Spotify investors
Raising its subscription price by $1 per month, for example, would add a significant amount of revenue to Spotify's top line, boost its gross margin, and help push it back toward profitability.
The platform still expects its gross margin to climb above 30% in the next five years. A key part of that is to get the core music-streaming business closer to that number. It will leverage more fixed costs in the podcast business and other areas of expansion to boost that profitability higher in the long run.
Spotify pays out about two-thirds of its revenue to songwriters and copyright holders. But the incremental revenue from a price hike would come with almost no additional costs.
With around 50 million U.S. subscribers, the potential impact of just a $1 price hike is meaningful. That's $180 million in additional operating profits at a 30% incremental operating margin.
After posting an operating loss of 659 million euros ($708 milion) in 2022, a price hike combined with management's plan to become more efficient with investments would be able to shore up the bottom line. What's more, it's set up to provide further operating-margin expansion as it leverages its investments in podcasts, audiobooks, and its marketplace from the last few years.
The strong subscriber growth combined with the potential for a price hike and margin expansion should give investors confidence in this growth stock.
