Why Growth Company Spotify Is Buying Back $1 Billion Of Its Own Stock Despite Needing Cashwritten by Bella Palmer
Music streaming service Spotify has had what has to be described as a very ‘alternative’ first calendar year as a listed company. In April, Spotify eschewed the normal route of an IPO on its way to becoming a public company. It sold no equity whatsoever and its stock simply began trading one spring morning in New York through an unusual ‘direct listing’.
The company is growing relatively quickly and international user numbers have passed 200 million. Quarterly growth in users paying a subscription or choosing instead to be exposed to advertising has recently fallen somewhere in the mid-single digits. But cash income is still relatively limited and significant investment required. In recognition of that, Spotify’s share price has slid by almost a third over the months since its historical high, reached in July.
Within that context, Monday’s announcement from the company that it is launching a $1 billion buy back of its own stock doesn’t seem to make much sense. The previous week Spotify offered forward guidance that its gross profit margin would take a temporary dent from an increase in R&D expenses over the next several months. Operating margins are around break even. Its user growth outlook was also revised down by 1 million subscribers. Not a huge amount but still a downgrade. An operating loss of $6 million was recorded on overall sales of $1.35 billion over the quarter to the end of September and free cash flow was a modest $33 million.
So why plough $1 billion of cash, from a limited reservoir (Spotify’s entire market cap is just $26.4 billion), into a stock buyback? Wouldn’t the obvious decision be either keep that money in reserve for a rainy day or to channel it towards R&D and/or a marketing drive to boost user growth rates?
Perhaps to prop up a share price that fell 7% following the announcement of the quarter’s results. Spotify has been caught up in the tech sell-off that has gripped the market over the autumn and the buyback could also be interpreted as the management believing its stock is currently undervalued and is taking advantage of the current malaise in the hope of selling back to the market at a higher value at a later date.
How much of the $1 billion ceiling will in reality be taken up is also an open question. The buyback option is open to Spotify until April 2021 but there is no obligation on the company to take it up in full. The number of shares that could currently be bought for $1 billion is actually more than the total publically listed in April, which amounted to just 3.1% of Spotify’s outstanding shares. The small number of shares on the market means Spotify’s share price is especially prone to volatility.
The consensus view is that Spotify’s odd decision is simply a strategy designed to maintain its share price above its initial listing level in April. Whatever it is, it appears the company is happy to maintain its unusual approach to a presence on the stock market.
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