Bilibili  (BILI 3.15%), a diversified Chinese entertainment company, grew its revenue at an annualized rate of 168% over the four years ending in 2019, thanks to growth in the number of users and improved monetization of those users. There are good reasons to expect the company to sustain its growth trajectory over the next few years.

1. It has a growing user base

Founded initially as a community to share animation, comics, and games content, Bilibili has evolved into a diversified entertainment company providing a wide range of content and services, including videos, live broadcasting, and e-commerce.

By diversifying its offerings, it can appeal to a wider range of users while working on improving the engagement level of its existing members. As the number of new users grows, content creators will be motivated to share more content.

An increase in content, in turn, will attract even more new users, sparking a virtuous cycle of growth in the company's user base and content. The result so far is evident in Bilibili's operational metrics: Monthly active users (MAUs) have grown from 85 million in the second quarter of 2018 to 172 million in the second quarter of 2020. Second-quarter MAUs remained unchanged from the first quarter -- which saw an abnormal surge in new users thanks to the COVID-19 lockdown in China-- as many users are now back to work or school. Stripping out the one-time surge in the first quarter, the MAU growth trend is remaining stable in 2020.

Bilibili is also doubling down on initiatives to grow its content.  For example, it has acquired a 9.9% stake in Huanxi Media -- a film and drama producer-- to gain exclusive rights to certain upcoming drama productions. It has also entered into a strategic partnership with Riot Games for a three-year exclusive license to live-broadcast League of Legends esports global events in Mandarin. Such efforts will likely sustain the user growth trajectory for the foreseeable future.

Hand drawing an arrow pointing up on a pane of glass

Image source: Getty Images.

2. There is room to grow monetization

A growing user base and improving engagement mean that Bilibili can now work on its monetization, which is currently at a low level. Only 7.5% of its MAUs spent money on Bilibili's platform in the second quarter. Hence, there is a significant opportunity to convert non-paying users into paying users and increase the average spending per user.

Bilibili has multiple avenues to make money from its users, including mobile games, live-streaming, membership subscriptions, advertising, and e-commerce. Revenue from value-added services surged 153% year-on-year in the second quarter of 2020, more than double Bilibili's companywide revenue growth rate of 70%, thanks to higher income from its newly launched paid membership service and live-broadcasting.

Still, Bilibili needs to balance the trade-off between user experience and monetization or risk losing its customers. Hence, investors should watch for potential red flags such as a massive deceleration in MAU growth or weakening engagement metrics.

3. It can offer new products and services

One major strength that Bilibili has demonstrated is its ability to diversify not only its content offerings, but also its income streams. It has grown far beyond animation, comics, and games content to incorporate other themes such as lifestyle, drama, variety shows, and technology, and also expanded into new formats like live-broadcasting and movies. 

This opens up new income streams for the company, which include e-commerce, selling virtual items to gaming and live-streaming users, and advertising. In the second quarter, these new services grew at rates ranging from 58% to 153%, and should contribute significantly to Bilibili's long-term growth over the next few years.

Moreover, Bilibili could continue to introduce new services to delight its users, which would further help improve user engagement. The idea here is that as users become more engaged and familiar with Bilibili's platform, they end up consuming more content and spend more money.

Risks to know before buying the stock

Overall, Bilibili is a classic example of a growth stock -- excellent growth track record and a long runway for future growth. Still, there are two risks that investors should note before buying the stock. 

First, Bilibili is still a loss-making business. Second, Bilibili faces enormous competition and investors should be watchful of negative trends -- such as a material acceleration in financial losses, or a huge deceleration in MAUs growth -- that could change the long-term investment thesis.