KEY POINTS
- SUBS MAY BE TAKING OFF: P was already tracking toward a 1Q beat before the quarter started. Consensus is essentially assuming no growth in 1Q subs since a full quarter's worth of revenue from P's ending sub base as of 4Q is roughly inline with what consensus is assuming for 1Q sub revenue; mgmt also said P ended January with ~90K more subs. Granted there's always the risk of churn, but we suspect P's heavy in-app Plus promotion + surging ad load (below) is more than enough to offset that. FWIW, P has also never seen a quarter of sequential decline in its sub base. But we also suspect that P's soft Premium launch may have accelerated sub-adds into 2Q. P had offered free 6-month Premium trials to existing Plus subs prior to the full Premium launch, which didn't happen until roughly a month later. We suspect some of P's listeners took advantage of the promo by signing up for Plus ahead of the launch given that P's app rankings (SensorTower) started surging the week after the announcement (i.e. after the one-week free Plus trial ended). However, this is less of a 1Q revenue driver since it occurred so late in the quarter. Keep an eye on Deferred Revenues.
- AD REVENUE/EBITDA SHOULD BE OK: There are more moving parts here than usual, but we suspect P gave itself enough room in its top-line guide, which consensus translated into 3% Ad revenue growth (vs. 16% in 4Q). The headwind is the salesforce reduction (-7%), which is a concern since ad revenue growth had historically been driven predominately by headcount. The tailwinds are new ad revenue streams from expanding programmatic channels, which doesn't require comparable distribution, and what we believe was a considerable increase in ad load. Note the focal point of the below survey is the 18-34 yr-old demos since they are naturally the most active users, therefore probably a better gauge for how much P is increasing ad load. In short, if ad load increased as much as we believe, than P likely mitigated the distribution headwinds from the salesforce reduction. EBITDA has even more moving parts, but we estimate that the ~$20M y/y decline implied by its EBITDA guide is essentially the difference b/w its revenue guide and its higher royalty rates assuming flat ad-supported hours; the former we suspect is light, the latter mgmt expects to decline 5%-10% this year (more below). We estimate S&M Expense to be flat to down y/y on contractually-lower sub commission rates and headcount reductions; the latter should also keep its other line items in check as well.
- 1Q17 = 2Q15? This could be P's first clean print in over a year, which we suspect will make it tougher for the shorts to stick with their positions. The strength that we're expecting in P's 1Q sub adds should drive upside to its 2Q guide. For context, P only needs to end 1Q17 with a comparable level of net adds to 4Q16 to beat 2Q sub revenue consensus (see Point 1), and that's not even considering any 2Q sub adds or paying Premium subs. Sub conversion should also take some pressure off of EBITDA since the most likely source of those sub adds are P's heaviest ad-supported users, so P should also see an impact on EBIITDA via disproportionately lower ad-supported hours. That said, if P also beats consensus with its 2Q guide, we suspect the stock would rally given its elevated short interest (4-yr high) combined with the heightened risk-on environment that has characterized this earnings season.
Let us know if you have any question or would like to discuss further.
Hesham Shaaban, CFA
Managing Director
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@HedgeyeInternet
