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Is Spotify Hinting That It's Going to Raise Prices?

By Andrew Tseng – Aug 26, 2020 at 11:00AM

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The company has been changing its tune on this topic.

Spotify Technology (SPOT -4.60%) has been taking the streaming audio world by storm over the last several years by prioritizing relentless subscriber growth. The number of premium subscribers has increased more than six-fold over the last four years. But part of that growth has been driven by cheaper multi-user plans, which have driven down average revenue per user (ARPU).

Management has executed this strategy because the company is in the early stages of the land grab phase of the industry. As a result, management has repeatedly dismissed the idea of broad-based price increases. But is that changing?

The land grab

Since Spotify went public in 2018, management has been laser focused on winning this land grab. Part of the strategy to accomplish that has been rolling out family, student, and "Premium Duo" subscription plans in more markets around the world. These plans are cheaper on a per-user basis than the standard premium plan that costs $9.99 per month in the U.S.

For example, the family plan costs $14.99 per month and provides up to six distinct premium accounts. That works out to as little as $2.50 per subscriber per month for a family of six. Similarly, the student plan costs just $4.99 per month for one user. And the Premium Duo plan, which was recently rolled out in the U.S., costs $12.99 per month, or $6.50 per subscriber. Naturally, more subscribers to these plans increases the company's total revenue, but it also lowers the company's ARPU.

A young woman dances while listening to music with headphones on.

Image source: Getty Images.

Sell-side analysts have long asked about the company's declining premium ARPU, which has declined from 6.84 euros at the end of 2015 to 4.41 euros at the end of June. At current exchange rates, that's a decline from $8.06 to $5.20 per premium subscriber. Many investors wrongly view this as a sign of weakness. The truth is Spotify is aggressively expanding around the world in an effort to dominate global audio streaming. Lower per-user prices in the near term are helping it achieve that while also reducing churn. The company now has 138 million premium subscribers globally, growing 27% year over year, and is distancing itself from Apple Music, the No. 2 global paid subscription music streamer. 

That's why management has consistently rejected the idea of raising prices. On the company's first-quarter 2018 conference call, co-founder and CEO Daniel Ek said the company is "playing a market share game," and that it is in its "long-term strategic interests to play for market share and not short-term pricing power and improved margins." A recent change in tone

Lately, the company seems to be subtly changing its tone on the topic. On the company's first-quarter call, an analyst asked whether the company planned to raise the price of the premium subscription in the coming months or years. Ek answered that "our primary strategy is growth ... rather than maximizing revenue" because the company sees "this amazing opportunity of moving from radio to on-demand audio."

And while the company has selectively raised prices in some markets and seen very positive results, broad-based price increases are not a near-term focus. However, Ek ended his answer saying, "But it's definitely encouraging to see that we have that opportunity for when the economy improves, and we feel that's the right trade-off to make." That was the first time management even slightly opened the door for price increases in the intermediate term.

Then, on the company's second-quarter conference call in July, Ek mentioned the possibility of pricing power on two occasions. First, he said exclusive podcast content enables "pricing power." Later, he said the existence of higher ARPU competitive subscription audio products, along with the improving Spotify service, suggests "we should have ability to be a significant player in subscription and have pricing power as well going forward." It certainly seems like management has changed its tune on its willingness to raise prices in the not-so-distant future.

So what

Given the long-term trend of declining premium ARPU, it is difficult for most investors to value Spotify's business with an assumption of meaningful future pricing power. Doing so appears to be too much of a leap of faith for most investors, which is at least somewhat understandable considering we have only seen price declines on a consolidated basis thus far.

This sort of situation can be an opportunity for those investors who have a differentiated view. If Spotify does stem the tide of premium ARPU declines, and eventually raises its subscription prices with little subscriber pushback -- a likely outcome, eventually -- investor sentiment toward the stock should improve meaningfully. After all, price increases are a meaningful driver of value when considered over the long term. Investors should consider buying Spotify shares while the market still underappreciates this.

Andrew Tseng owns shares of Spotify Technology. The Motley Fool owns shares of and recommends Apple and Spotify Technology. The Motley Fool has a disclosure policy.

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