SPOT stock replicates all the successes investors love

Even a year of uncertainty and above-average inflation rates were no obstacle for U.S. consumers. Shares of Spotify technology NYSE: POINT rallied more than 11% to close the trading session on Tuesday, April 23. The bull run came from the company’s first quarter 2024 earnings announcement.

Often considered the most critical quarter of the year, Spotify’s first quarter marks the beginning of what could be an unstoppable trend in the consumer discretionary sector. Unlike Netflix Inc. NASDAQ: NFLX After the stock’s reaction to the first quarter, which followed a 15% price drop, Spotify’s reaction to earnings is all about key performance indicators (KPIs).

After outperforming the SPDR fund for selected consumer discretionary sectors NYSEARCA: XLY by as much as 100.5% over the past 12 months and even leaving Netflix behind by 40.5% over the same period, investors may now be wondering whether Spotify has what it takes to continue this bull run.

Spotify is the opposite bet

Today’s economy is divided into two camps, creating a trend not usually observed during business cycles. This is all because the prospect of rate cuts by the Federal Reserve (Fed) this year has caused a divergence between the two main drivers of the US economy.

On the one hand, the ISM manufacturing PMI is showing signs of a breakdown, and analysts confirm it The Goldman Sachs Group Inc. NYSE:GS have expressed their expectations in this regard in their macroeconomic outlook report for 2024. In contrast, the ISM services PMI has slowed its rate of expansion in recent quarters.

Lower interest rates, which could arrive by September 2024, according to the CME’s FedWatch tool, could cause the dollar index to decline, making American exports more attractive to foreign buyers.

So far, Goldman’s view is correct, as the February manufacturing PMI showed a 6.4% increase in net export orders. With this macro game at hand, betting on Spotify (as a service title) is decidedly against the grain. However, these contrarians may be the few to fight against the consensus and beat it.

Wall Street’s point of view

Compared to the Radio Broadcasting industry, Spotify’s price-to-value (P/B) ratio of 19.6x is valued at a 378% premium to the average industry valuation of 4.5x. Markets have to have a good reason to be willing to overpay for Spotify’s book, and it’s all about its first quarter.

Book value tends to expand with higher earnings, and analysts now expect Spotify to grow earnings per share (EPS) as much as 48% this year, above the industry’s expected growth of 22% EPS. Investors looking to challenge these projections can look at the price-to-earnings (P/E) ratio to see how the market feels about them.

Spotify’s 58x forward P/E ratio gives the stock a 132% premium over the industry’s 25x forward P/E valuation. By placing a premium on the company’s future earnings, markets are telling investors that they have accepted analysts’ EPS projections, despite how bold they may seem.

Seeking to reach a new all-time high price, Spotify stock has all the bullish momentum it needs to maintain its current trajectory. Even as the industry rotates out of economic favor, institutions continue to feel comfortable owning Spotify.

Currently, up to 84% of the company is owned by institutions. With an inflow of $3.3 billion into the stock over the past 12 months, the bet remains that this company is of institutional quality and an industry leader.

The results speak for themselves

According to its quarterly earnings press release, Spotify management reported total monthly active user growth of 19% over the year and 2% in the latest quarter. However, these ranges vary significantly between premium (paid) and ad-supported (non-paid) users.

Premium user revenue grew significantly by 20% over the year and 2% in the quarter. The 22% decline in ad-supported users is where things get interesting because it was the primary driver of the company’s gross margin increase to 27.6%, which is 31% larger than the last year.

As users realize the time savings that come with paying for premium Spotify, management can use this new predictable and recurring source of subscription revenue to further increase margins from an operating loss of $156 million to a net operating profit of $168 million.

Knowing this, it’s not too far-fetched for investors (as the markets have priced in) to see analysts’ EPS projections come true. This may be one reason why analysts Morgan Stanley NYSE:MS have increased Spotify’s price targets to $350 per share, predicting a 15.4% upside from today’s price.

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