Spotify Technology SA (SPOT) Q2 2022 Earnings Call Transcript

Spotify Technology SA  (NYSE: SPOT) Q2 2022 earnings call dated Jul. 27, 2022

Corporate Participants:

Bryan Goldberg — Head of Investor Relations

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

Paul Vogel — Chief Financial Officer

Presentation:

Operator

Good morning. My name is Julianne, and I will be your conference operator today. At this time, I would like to welcome everyone to Spotify’s Second Quarter 2022 Earnings Call and Webcast. [Operator Instructions]

I would now like to turn the call over to Bryan Goldberg, Head of Investor Relations. Mr. Goldberg, you may begin.

Bryan Goldberg — Head of Investor Relations

Thanks, operator, and welcome to Spotify’s Second Quarter 2022 Earnings Conference Call. Joining us today will be Daniel Ek, our CEO; and Paul Vogel, our CFO, We’ll start with opening comments from Daniel and Paul. And afterwards, we’ll be happy to answer your questions. Questions can be submitted by going to slido.com, S-L-I-D-O.com, and using the code number SpotifyEarningsQ222. Analysts can ask questions directly into Slido, and all participants can then vote on the questions they find the most relevant. [Operator Instructions] If for some reason you don’t have access to Slido, you can e-mail Investor Relations at ir@spotify.com, and we’ll add in your question.

Before we begin, let me quickly cover the safe harbor. During this call, we’ll be making certain forward-looking statements, including projections or estimates about the future performance of the company. These statements are based on current expectations and assumptions that are subject to risks and uncertainties. Actual results could materially differ because of factors discussed on today’s call, in our shareholder deck and in filings with the Securities and Exchange Commission. During this call, we’ll also refer to certain non-IFRS financial measures. Reconciliations between our IFRS and non-IFRS financial measures can be found in our shareholder deck, in the Financials section of our Investor Relations website and also furnished today on Form 6-K.

And with that, I’ll turn it over to Daniel.

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

All right. Hey, everyone, and thank you for joining us. I hope you had a chance to take a look at our new approach to sharing our earnings results. We would love any feedback you have. Because as I mentioned on our Investor Day, we want to improve how we communicate with you. And I see this revised format as an important first step, and Paul will speak to this further in a few minutes. And with that, let’s jump into the quarter. We had another very strong quarter in Q2, building on the momentum and success we’ve now seen for four consecutive quarters. The acceleration in our user growth continued. And we had a very strong beat on MAU growth, coming in about five million users ahead of forecast. As a reminder, this was one of the weak spots for us in Q2 of 2021, so I’m really glad to see the hard work from our teams has paid off.

In addition, our global subscriber growth exceeded expectations by one million, while revenue was in line. Going forward, while the macro environment continues to present uncertainty, we’re currently not seeing any material impact on our expectations for users or subs growth from the economic downturn. In fact, we’re seeing several markets trending ahead of our forecasts. That said, in anticipation of a potential slowdown, we already shared that we proactively reduced our hiring by 25% and instituted a double down weekly revenue monitoring. I’ve said this before, I do believe only the paranoid survive, and we’re preparing as if things could get worse. But it’s hard to be anything but optimistic given what I’m currently seeing. Looking further ahead, recession or not, my confidence in our business and the unique Spotify machine that we’re building is really unwavering. Audio is growing and Spotify with it.

Hopefully, after last month’s Investor Day, this is a term you’re all familiar with. And for those needing a refresher, we believe the Spotify Machine is what differentiates us from other tech platforms. It leverages one consumer experience, powered by three revenue-generating business models: subscriptions, ads and Marketplace. And as I detailed last month, we’re confident in our ambitions to get to one billion users by 2030, while at the same time, we are also focused on improving our gross margins and continuing to generate positive free cash flow. And this rinse-and-repeat approach and the machine behind it that bundles multiple business models with multiple verticals into one user experience is what we will continue to invest in. Not only will this investment benefit Spotify and its shareholder, but it also creates tremendous upside for listeners, artists, songwriters, creators and advertisers. And for those who want to learn more, I’d really encourage you to go to our investor site to catch a replay of our recent event. We highlight the big bets we’re making, the incredible opportunity on the horizon and detail how we’re measuring success.

And with that, I’ll hand it over to Paul to go deeper into the numbers, and then Bryan will open it up to the Q&A.

Paul Vogel — Chief Financial Officer

Great. Thanks, Daniel, and thanks, everyone, for joining us. As Daniel mentioned, we have moved away from our shareholder letter, transitioning to a slide-based presentation. Our goal is to make our performances easy to understand as possible, and we hope this new format resonates with the investment community. Please reach out to me or the IR team with any feedback. And now turning to the quarter. I’d like to add a bit more color on our strong operating performance and what we’re seeing with respect to the macro environment and to touch upon our outlook. Let’s first start with our strong user performance. Total monthly active users grew to 433 million in Q2. This result was five million ahead of our guidance, and was the largest Q2 net additions in our history after adjusting for our exit from Russia and the March outage, which we discussed prior.

Moving to Premium. We finished the quarter with 188 million subscribers, one million ahead of guidance, thanks in part to broad-based strength across regions, particularly in Europe and Latin America, where upside was helped by an extra week of promotional activity and traction in our multiuser products like Family Plan and Duo. Revenue finished ahead of guidance, which was helped by currency movements. And we saw another strong quarter in advertising, which grew 31% year-on-year. With respect to gross margin, on a reported basis, Q2 finished below guidance, but gross margin was modestly ahead of our expectations when adjusting for onetime charge related to our decision to stop manufacturing Car Thing as well as the positive net royalty impact we saw from prior period accrual adjustments. So looking specifically at Car Thing. Our decision to stop manufacturing the device was made based on a few factors. First, we tested a number of price points. And we frankly haven’t seen the volume at the higher prices that would make the current product financially viable.

Second, rising inflation and component costs, coupled with the expanded lead time needed to order parts, has significantly altered the risk reward of continuing to lean into further product development. Our decision resulted in a onetime charge of EUR31 million, impacting gross margin by 109 basis points in this quarter. Our decision will minimize further gross margin impact and cash flow expenditures moving forward. As we discussed during our recent Investor Day, much of our operating expense growth we saw in Q2 was a result of decisions we made through the end of 2021, mainly to expand our global sales team, invest in our platform and increase marketing to drive user growth. We’ve also added incremental costs associated with our acquisitions of Podsights, Chartable and Whooshkaa. And lastly, while we did forecast higher growth, a significant portion of our operating expenses are in U.S. dollar denominated.

And foreign exchange movements added nearly 1,000 basis points of growth in expenses, and this was more than expected. And despite the increase in operating expense, we generated our ninth straight quarter of positive free cash flow. And we’re looking at our free cash flow growth on a trailing 12-month basis, which smooths out seasonality, it shows a very consistent trend. We have averaged over EUR200 million of free cash flow for the past three years. We believe this is really a key way of looking at our business and also smooth out the lumpiness that we see quarter-to-quarter. So looking at Q3 and beyond. As Daniel said, we continue to monitor the global macro outlook, but to date, have seen no real impact on our user or subscriber outlook. Specifically, we expect to see another quarter of accelerating MAU net adds and expect subscriber net additions similar to Q3 of last year.

On the Premium side, which is still the majority of our revenue, we expect ARPU to be up in the mid-single digits. And for advertising, we did see some softening in trends over the last two weeks of June. But with that as context, we still expect solid growth in Q3, albeit slower than we might have forecast earlier in the year. Our gross margin outlook of 25.2% for Q3 is in line with our full year commentary and reflects our expectation for continued core operating improvements across our music and podcasting business, offset by select growth initiatives. We anticipate elevated operating expense growth consistent with Q2’s run rate for the next few quarters, with the benefits of our previously announced 25% slowdown in new headcount additions showing up later in the year. Currency will continue to be a negative drag on opex as well. In closing, despite an uncertain macroeconomic environment, we continue to be highly encouraged by the trends we have seen year-to-date.

And with that, I’ll hand things back over to Bryan for Q&A.

Questions and Answers:

Bryan Goldberg — Head of Investor Relations

All right. Thanks, Paul. And again, if you’ve got any questions, please go to slido.com, number SpotifyEarningsQ222. [Operator Instructions] And our first question today is going to come from Matt Thornton on Premium subscribers. Can you provide some color on what you’re seeing in terms of gross intake and churn? And what impact the extra week of promotion had on second quarter and the 3Q outlook?

Paul Vogel — Chief Financial Officer

Yes. So in general, really positive trends. So we still know — we haven’t seen any change at all in the trajectory of gross intake or churn. We don’t give out specific churn numbers. But I can tell you, churn was in line with expectations and down on a year-over-year basis. And so no impact on either of those. And the extra week, it definitely helped a little bit in the quarter. I would say some of the outperformance came from the extra week, but not all of it. But we see that carrying through into Q3. And so the Q3 number, the expected growth in Q3 is the same that we thought heading into Q3 as it is heading — sorry, heading into Q2 as it is heading into Q3. So the outperformance was strong in Q2, and we also see strong growth in Q3 as well.

Bryan Goldberg — Head of Investor Relations

All right. We’ve got another question here in the queue from Matt Thornton. This one is on our Live initiatives. What’s been the early uptake and reaction from artists or content creators? How are we driving awareness? And what’s been the early willingness of artists and fans to want to sell and buy Live experiences via Spotify?

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

Yes. I would just really kind of say, it’s early days on experimentation on our Live initiatives, both the sort of physical and digital ones. We’ve been experimenting quite a bit during the pandemic. Obviously, it’s been hard to do that with physical live events, but we did a bunch of them on the digital side. I think the reality is much of those learnings are inconclusive because much of the world that we’re in now, in a sort of post-pandemic world, if you can call it that, it’s just very different from the experiences that people were willing to pay for and experience during the pandemic.

So we’re in the early days of learning and iterating. What gives me optimism is really kind of looking at how prevalent this format is in many Asian markets, however. So there, you see a great bunch of everything from live shopping to formats where you see NFTs, you see consumers wanting to participate in the live stream with their favorite creators. So there’s a lot of innovation that’s going on in Asian markets in the space. That’s where we’re looking at for inspiration. But it’s not something that you should expect to be a rapid improvement in the near quarters, but this is a multiyear effort from us.

Bryan Goldberg — Head of Investor Relations

Okay. Next question from Rich Greenfield on new verticals. At your Investor Day, you talked about new categories, having closed on your audiobooks acquisition. How should we think about the impact of this new category in the back half of ’22? And when should we expect to hear more about the other categories you teased at the Investor Day?

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

Yes. So we’re very pleased in closing Findaway. So happy to do that. Integration work now, and starting to work with the team. You should see us quite imminently get something to market. So think sort of coming — early coming months, coming weeks, something to the market, and then rapidly improve and iterate upon that proposition. But the reality is you’ll probably see more of the full extent in the first half of ’23 of the audiobook efforts. And it’s really kind of first half of ’23 to second half of ’23, you’ll start seeing some of our work in some of the other categories that we’re doing as well. But there’s nothing that I can announce at this point about what those will be or what kind of investments we’re doing in those categories at this moment. But we’re experimenting with them. We do plenty of experiments and bets internally. And ’23 will be a very big year for Spotify.

Bryan Goldberg — Head of Investor Relations

Okay. And our next question will be from Maria Ripps on the ads business. Your music advertising business saw double-digit growth in CPMs and a mid-single-digit increase in impressions. Can you share your thoughts on opening up more ad impressions? And can that be an additional growth driver? What’s — where is your ad load today versus where you’d like it to be?

Paul Vogel — Chief Financial Officer

Yes. So I’d say if you take a step back and look at advertising in general, I think there’s a number of factors that we think will grow the ads business. I think for us, we’re focused on a couple of things. One is just growing overall for users and for user growth. Two is actually on the engagement side. So one of the best ways to actually get increased inventory is to increase engagement. So we’re constantly improving and testing products within the free offering. And you’ll continue to see more innovation on the free side to drive more usage and more engagement because we think that’s actually the best way to increase impressions, is actually to have people come back more often and to actually see both the engagement up and the DAU-to-MAU ratio improve from that stand. We don’t really talk about ad loads. We think there’s probably some room to expand it over time. A lot of it will depend on the product and the person and sort of how we dynamically serve ads to different people at different times and in different amounts. And so you’ll see us continue to innovate on kind of how and when we sell ads to individuals.

Bryan Goldberg — Head of Investor Relations

All right. Next question from Justin Patterson on our gross margin and advertising business. Paul, in the wake of the CRB ruling and in an uncertain advertising market, how should we think about the puts and takes toward gross margin ahead? And then related to advertising, what gives you confidence that podcasting is not viewed as an experimental channel for advertisers?

Paul Vogel — Chief Financial Officer

Yes. So with respect to the CRB ruling, so at a high level, we have been accruing at the rates that were reaffirmed. And so there’s really no major change to anything from a forecasting perspective or from a modeling perspective. There was some modest benefits to us, both retroactively and prospectively, based on some of the nuances within the language. So that’s a little bit of what you saw in the positive accruals that we accounted for in Q2. And there’ll be a minor small benefit to gross margin moving forward, but it’s pretty minor. So for the most part, the ruling has a pretty minimal impact on our numbers or our forecasts.

And then with respect to advertising and podcast not being experimental, I mean, I’ll start. I don’t know if Daniel have any comments on this. We’ve seen strong — continued strong growth on the podcasting side, significant year-over-year growth. Again, we’re seeing increased number of advertisers, increased demand. So we’ve just seen a really strong growth. We think it’s becoming a core buy for people. It’s always tough to know. But we’re really encouraged with the trajectory and the year-over-year growth we saw again in Q2.

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

Yes. My only addition is, if you think about it broader and not just around podcasting, but think about audio more as a category, what are the very unique things about audio and the properties around audio is really how differentiated it is from all the other media that’s out there. So to take that into consideration, there is no other media format that can reach consumers in the car. The car is a massive use case, particularly in North America. Radio usage is going down. Digital consumption of content is going up. It’s quite obvious that audio ads is going to be a very dominant driver for reaching people lest they’re in the car. Similarly, when you think about — as people are walking around outside, more and more of us with our headphones and earbuds in, there’s a huge opportunity in local advertising, too. I believe that audio is the primary beneficiary of that.

So as you think about it from a structural standpoint, I think it’s — and more from a first principle standpoint, I think it’s kind of obvious that audio and audio advertising is going to be a massive sort of category in and on itself because it reaches people at times where no other mediums reach them and they have certain properties that other mediums don’t have. And then you have, in addition to that, lots of qualitative factors that people — when you see host-read ads, when you see it adjacent to the first-party data about the topics that we’re seeing people engage with, you’re seeing great response for advertisers in addition to that. And so we are seeing, despite a very dire macro environments, advertisers take up to the format really, really well. And I think that’s a testament to — that the product is actually working. And we’ve talked about this before. But the retention of the advertisers that we have is also going up, and that clearly shows that the format is working for them.

Bryan Goldberg — Head of Investor Relations

Okay. Next question from Rich Greenfield. You’re generating cash and you’re sitting on nearly EUR three billion of cash on the balance sheet. With investors continuing to dislike your stock because you are investing to win audio long term, how do you think about share repurchases given where your stock is trading here?

Paul Vogel — Chief Financial Officer

Yes. I mean not surprisingly, we talk about cash and capital allocation all the time. Given the uncertainty on the one hand, and also given some of the acquisitions we made and the pipeline we’ve had, I knew it was coming from an acquisition. We’ve been comfortable with the cash we’ve had on hand. And obviously, with interest rates rising and some of the uncertainty, it’s always safer to have a little more cash on hand and not ever need to have to go back to the market for anything we wanted to do, either internal investments, which obviously, we’re making a lot, or continued M&A, which we’ve done as well. So we think about it all the time. We obviously are fully aware of where our stock price is and fully believe in the opportunity of how big this opportunity is in front of us. And so it’s something we weigh all the time. We do have an authorization in place. And we’re always just looking to maximize the capital allocation the way we think is best to run the business.

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

My only addition to that would be, if you think about it, there’s three ways we can utilize our cash. One is obviously invest in our business, the second is to do share buybacks and the third is to do dividends, in that order. Every now and then, we see more opportunities to continue to invest in the business than we do in share buybacks or dividends. And this is one of those moments. And so for all of those reasons, we’re investing in the business. And we feel really good about it, with the expansion of the formats that we’re going into, with the podcast investments we’ve been making, etc. So we feel the more prudent thing is to keep investing in the business rather than doing share buybacks or anything else.

Bryan Goldberg — Head of Investor Relations

Okay. Next question from Matt Thornton. On advertising, what are the key drivers of ad growth through second half ’22? For example, international, recent measurement acquisitions, political, World Cup or anything else?

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

Why don’t I start and then you, Paul, can kind of chime in. So I think the primary thing, and we said this before, is that — and we talked a little bit about this during our Investor Day, too. So the number one part is still that a lot of our inventory just isn’t available to advertisers just yet. So we’re expanding the amount of inventory that’s available. That’s going to be by far the single biggest contributor to the growth of the ad business. And then in addition to that, you mentioned some sort of onetime events that typically are very strong for ad businesses, like elections and sporting events, etc. Those are obviously going to be impactful for Spotify, too. But I think in essence, it’s really about increasing the inventory available for advertisers and increasing the targeting so that they can drive even better results. Those are the top ones. I don’t know, Paul, if you wanted to add anything.

Paul Vogel — Chief Financial Officer

Yes. No. Just to sort of touch on these specific questions. I think a lot of the investments we’re making, international will really bear fruit in 2023. Maybe some at the tail end of this year, but definitely more from that standpoint. The political is new for us. We’ve just entered back in there. We’re doing it in kind of a targeted smaller way. So we’ll see how impactful that is. Actually, at this point, we honestly don’t know. And as Daniel said, I think on the measurement side, that’s definitely been a help, and we’ll continue to lean into improving measurement and tracking and attribution and all the things that advertisers are looking for. And that’s actually been a driver of growth for us.

Bryan Goldberg — Head of Investor Relations

Okay. We’ve got a question from Mario Lu on operating expenses. Historically, we’ve seen operating income dollars improve sequentially from the second quarter to the third quarter. And the third quarter guidance calls for negative sequential growth. So outside of FX, are there incremental investments, content or opex, to call out that would — to cause this decline?

Paul Vogel — Chief Financial Officer

Yes. I mean for starters, it’s hard to not include FX. FX is going to have a pretty significant impact on Q3. It’s about an $80 million headwind in Q3 or higher expense growth just based on FX. And so just to sort of refresh, and most people know this, but we report in euro, and pretty much every currency that we operate in, particularly the U.S. dollar, has appreciated relative to the euro. So we definitely see some benefit on the revenue side from currency, but we see an even bigger drag on the opex side from currency. We’ve got — if you look at revenue and gross margin, they’re fairly matched up from a revenue and cost perspective, not perfectly but fairly matched up. but they’re not matched up on a revenue and opex side.

And so we do have a disproportionate amount of our operating expense denominated in U.S. dollar relative to revenue. And so that is hurting us and will hurt us more than we expected in Q3 based on how much currency and FX have moved. Outside of that, it’s kind of the same things I mentioned. We had already planned over — probably six months ago to continue to grow that — our global sales force and as well as increase marketing to grow users, particularly in some of our newer markets. And that hasn’t changed. So those would be the three factors that are impacting opex in Q3.

Bryan Goldberg — Head of Investor Relations

Okay. Next question from Justin Patterson on subscriber conversion opportunities. Daniel, MAU growth in the rest of world continues to be a bright spot, but sub conversion is still in the early innings. What do you need to do from a pricing and plan perspective to convert those MAU into more subs?

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

Yes. So I think the first piece of context I just want to give everyone, because I think it’s very important, is what generally happens is what we call the bandwagon effect at Spotify. And one likes to believe that there’s a one-to-one analogous part where both of these two trends have been linear of user growth and then subscriber growth. But what actually happens is we typically have gone between a sort of flip-flop of focus on each. So in some points of the Spotify history, we focus more on user growth, and some point — part of the history, we focus more on conversion because that became a bigger priority. But the trend line that we’ve seen now, as indicated since really our launch in 2008 is, once we go through these growth spurts in MAU, it always, always leads to better subscriber numbers over time. So it’s really just a bandwagon effect. It just takes time. And depending on where those customers come from, we then have to sort of figure out, okay, well, how do we best convert them?

And the team gets focused on that. And it usually lags about a year from when we get them until we start seeing sort of material improvement here. So I look at this as — I don’t know what the specific pricing and plans will be, if it might even be a more of a marketing challenge in some of these markets, etc. But I think the general recipe is, the team has been very much focused for the past year in growing users. I’m very, very proud of their work. And I’m very, very pleased with the results we’re seeing of that effort, as you can see about the reacceleration of MAUs. At our scale, to reaccelerate MAUs, it’s very, very difficult to do. It’s not very many platforms that do that. We are doing that right now. And we are very, very positive over the impact that, that will have for the remainder of the year, as you can see in our guidance, too.

So that’s probably the number one takeaway you should take from this entire earnings call. What will happen subsequently is, as this trend line now keeps going, now the team is going back to, okay, well, how do we convert more of these people into paying customers? And that’s what the team will be working on now, too. If history is any indicator of the future, what will happen is, roughly a year from now, you’ll start seeing probably an acceleration in subscriber growth as evident from that. That’s what’s happened in the past. I believe that’s what’s going to happen now, too. Exactly how that will happen, I don’t know. And I’ve never known that in the history. We just have figured out various pricing plans and/or different payment methods. The team is very resourceful when it comes to stuff like that.

Bryan Goldberg — Head of Investor Relations

Okay. Our next question is going to come from Deepak on marketing. With the Barcelona partnership kicking off in July, can you talk about your expectations for subscribers and MAUs from it in the second half of the year? And can you also help us size the incremental impact on opex from the partnership for the second half?

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

All right. So I’ll do the first part and Paul can do the second part about the opex. So as a general reminder, one of the reasons why we’re so excited about the Barcelona partnerships is just really around the impact the club has around the world in particular, in LatAm, but in Southeast Asia, our number one growth markets that we have. But also, in particular, with the younger audiences, Gen Zs that the club has. So it’s really kind of a perfect overlap when we think about where their strengths are and what our future growth opportunities lies as well. So a good framing for investors will probably be to look at this as, this gives us a tremendous amount of exposure organically to a customer base that’s notoriously difficult to market towards in many markets, which is very, very hard to reach them in. So we believe relative to other marketing initiatives that this partnership should be more accretive than any other source that we could reach these customers in.

But that’s obviously something that will have to be proven out. That’s the thesis through which we entered the partnership in. And so the team is working on that. And you can see it in many social channels already. I would just highly recommend you to go to both Instagram and YouTube and all, TikTok and all these channels and subscribe to the FC Barcelona social channels and see the amount of content that they’re putting out now. That’s jointly with the Spotify team, where music and soccer/football is coming to life. And the social engagements are just off the chart. So, so far, so good. but the expectation you should have is not that this will come into fruition in the second half of this year. This is a multiyear partnership. We will take the second half of this year to learn and iterate on what works.

And you should see in ’23 that hopefully get ramped by us, doubling down on what worked, stop doing what didn’t work, and it’s trial and error. The most important thing is we have a very, very great partnership team from our side, and we have a great partnership team from the Barcelona side that are focused on delivering results. That’s why I feel good about the partnership. And yes, it’s early innings. But if this proves out to be right, you should see it as being probably the most efficient channel that we can reach Gen Z in LatAm and Southeast Asia. That’s the way — that’s the thesis through which we entered the partnership in. And Paul, I don’t know if you want to talk about the specifics around the opex.

Paul Vogel — Chief Financial Officer

Yes. I’ll add a couple of things. First, in general, I’ll just echo what Daniel said. Follow on social media. If you guys don’t know, Barcelona is out playing a bunch of friendlies in the U.S. They’ve been in Miami. They’ve been in Vegas. They’ll actually be at Red Bull stadium in New York this upcoming Saturday. It’s been great. The combination of athletes love musicians and musicians love athletes, and the mutual love we’ve seen on social media has been pretty fun to watch. So that’s actually been great. And just to echo Daniel’s point in terms of the reach. Our data would suggest that Barcelona as a club reaches over 700 million unique people per year.

And as Daniel mentioned, many of them in Latin America and emerging markets, and places where our next real phase of growth is going to be. So we’re super excited about that. And then from an opex standpoint, we’ve absorbed, I would say, probably about 80% of the incremental costs. We’ve reallocated other funds previously. But there will be about 20% of our cost is going to be incremental. So that is a little bit of the marketing spend in the back half of the year as some of the costs related to that. And then again, as we get into 2023, we’ll be able to sort of cycle through. And as Daniel said, we’ll be reallocating some marketing dollars to sort of fully cover the incrementality of Barcelona.

Bryan Goldberg — Head of Investor Relations

All right. Next question from Steven Cahall on gross margin. The vast majority of your gross profit comes from Premium subscribers. And Premium subscribers by region are slowly skewing more towards LatAm and rest of world. Does the growth in these regions represent — or excuse me, present any Premium gross margin mix headwinds?

Paul Vogel — Chief Financial Officer

The short answer is no. We don’t really have any impact from that at all from a Premium perspective.

Bryan Goldberg — Head of Investor Relations

Okay. And actually, conveniently, there’s a follow-up from Steven Cahall in the queue. On Premium — on pricing. Premium ARPU reportedly benefited from price increases in the quarter. Are you considering any in the U.S.? And how did churn perform in regions where you implemented price increases?

Paul Vogel — Chief Financial Officer

I’ll start, and if Daniel has any comments. So first just on churn, in general, we’ve seen no impact in churn. Most of the price increases we launched are now a couple of quarters old. And we’ve talked about that over the last couple of quarters, that we saw no material change in churn relative to any of our price increases. And just in general, just as a macro question, which I think we addressed earlier, but we haven’t seen any impact at all in churn, either with respect to some of the questions we’re getting about the macro uncertainty.

So the churn levels have been right in line with expectations. And as I said, our core churn has been — was down year-on-year in Q2 versus Q2 of last year. And then on price increases, we obviously aren’t commenting on anything. We’ve talked at the Investor Day about our belief that we have pricing power over time. That being said, there’s a lot of macro uncertainty. And so we’re always going to be smart about how and when we implement anything. So I don’t know, Daniel, if you have anything to add to that.

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

No. I would just say, we feel really confident in our ability, of the value that we’re providing to consumers. And that over time, we should be able to translate that value into price increases. But given the macro uncertainty in the marketplace, we’re obviously going to be very careful before making any such moves. So long term, we definitely believe we have pricing power, short term. Obviously very concerned about the uncertainty in the marketplace, and we’re going to evaluate that uncertainty into any decisions we make.

Bryan Goldberg — Head of Investor Relations

All right. Our next question is going to come from Ben Swinburne on advertising. How are you innovating in the Spotify Audience Network to attract more third-party publishers who have other options to monetize? And in addition, can you talk about the opportunity to build meaningful revenue off Spotify through the Spotify Audience Network?

Paul Vogel — Chief Financial Officer

Yes. I mean look, I think it’s a couple of things. I think one is, if you look at the acquisitions we’ve made, those have been geared towards bringing more measurement, more attribution, more personalization for advertisers, so that the value that they get on Spotify is higher, which will bring more people into SPAN and more people want to put their inventory into SPAN. So it’s really about, I guess, kind of the obvious, which is continuing to build out the ad tech, the ad stack, both through our own internal development as well as some of the acquisitions we’ve made, integrating those in and then offering those up to a wider array of advertisers. We’re going to continue to increase and build out our self-serve tools, which will bring in more small and midsized advertisers. And so all of that will go towards bringing in both more publishers to opt-in and more advertisers who can both effectively and easily advertise on Spotify.

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

Yes. I would just probably add, if you think about it, it’s a trifecta of three things. So it’s — the trifecta: what us as a platform can contribute, it’s the number of advertisers and the number of publishers. So what we can add to the table is obviously all the things that Paul talked about: better data, better targeting abilities, better formats. That should mean advertisers get a better deal. And if there’s enough advertisers, it should also means the publishers are getting a better deal. But in addition to that, we also have a pretty sizable ad sales team now, which help cover a lot of advertisers and publishers relationships in many markets around the world. And that’s something that we tend to always underestimate, but it’s a very powerful thing. Like on the audio network side, there’s no platform that can truly get to this scale in as many markets as Spotify does. So when you’re a publisher and if, let’s say, you have audience in many more markets, I just don’t see any alternative to Spotify. Because frankly speaking, we have more data to bring to the table.

That should mean better results for advertisers. So advertiser are getting better value. And because we have our sales force in many markets, we can also help sell their inventory in many more markets than say they could do on their own or even through a much smaller reseller of their inventory. So bar sort of host-read ads, which are perhaps more sort of unique and novel in their delivery, on scale, Spotify should win with all the advantages that we bring to bear. And those are kind of the similar talking points on SPAN, too, because even though they’re off platform, we can still leverage a lot of what we know around our audience and our sales force and what we know around advertisers as well and bring that to bear for people off the platform, too.

Bryan Goldberg — Head of Investor Relations

All right. Our next question is going to come from Mario Lu on market penetration. Much of the MAU growth in the second quarter came from Latin America and rest of world versus lower growth from North America and Europe. How should we think about user saturation in the developed Western markets and growth there going forward?

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

I’ll start and then maybe, Paul, you can add. Obviously, naturally so. When you think about the TAM, the emerging market or rest of world is obviously far greater in future potential than the existing markets. The inverse is probably set in the short term to revenue potential. So the way I think about it is, if you create a mental model, the near, mid and long term and then think about sort of developed and developing or rest of world, and then you think about sort of growth in users and growth in revenue, I think you’d see most in the near to mid term, most of the user growth should come from more of the emerging markets than not. But given what we talked about during our Investor Day, we think more of our revenue story in the near to mid term should come from our already developing markets — sorry, developed markets.

And the great story there is that we believe we can upsell more of these into podcasting, which means more people will spend more time. And then subsequently, audiobooks, which also means that they’ll spend more time and increase our revenue opportunities there, too. And then overall, on the platform growth side, we think, obviously, more of the user growth should come from emerging markets where they’re more mid to long term in terms of monetization opportunities. So it is true that developed markets were slowing down. The flip side is not on the revenue side. We have lots of opportunities there still. And then on the emerging market side, we have probably more work to do on the monetization side, and that will take a little bit longer, but that’s the mid- to long-term story.

Bryan Goldberg — Head of Investor Relations

Okay. Next question from Ben Swinburne on audiobooks investment. So now that you’ve closed on Findaway, can you give us a sense of the investment needs for audiobooks over the next 12 to 18 months? And should we be thinking about this vertical materially impacting opex or gross margin in 2023?

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

I’ll start, and then Paul maybe can add. So we’re obviously super early in the integration efforts with Findaway. We’re still trying to create any plans. But just like you should imagine, and as we’ve talked about before, you should imagine us to start experimenting, getting this up and live. If we’re seeing great results, we will double down on that investment. And that might, in turn, obviously, impact opex. However, the gross margin considerations for this vertical will be substantially different than other verticals, and that should be positive to us.

Paul Vogel — Chief Financial Officer

Yes. And the only thing I would add is, I think Daniel mentioned that with Findaway having closed, our expectation is that the first iteration of audiobooks will occur in Q3. And so you can assume that there’s been some of the opex that we’ve talked about has gone to making sure that we’ve been building up the resources, that potential to quickly integrate Findaway. And so there’s been some expense already that we’ve incurred to sort of build out the team and be prepared for Findaway. And then again, as it ramps, we’ll give you more guidance as we get closer to 2023 when we give that guidance.

Bryan Goldberg — Head of Investor Relations

All right. We’ve got time for one more question, and that’s going to come from Doug Anmuth on net additions. Do you still expect 2022 MAU and subscriber net additions to be in line with 2021 levels? And what factors would change your view here?

Paul Vogel — Chief Financial Officer

Yes. So let’s start with MAU first. I think as you’ve seen both now through Q2 and then our guidance for Q3, we’re pacing pretty well for MAU through the — for the year. And while we aren’t giving Q4 guidance, you can — the numbers would definitely imply that we’re on pace to do kind of similar to or better than that for 2022 on the MAU side. And on the sub side, we’ve done really well on subs as well. There’s — when you kind of think about those numbers, there’s some moving parts with respect to pulling out Russia as well as some of the expected growth we had in Russia for 2022 as well. So on the sub side, I’d say, yes, kind of, I’d say, roughly similar types of growth when you kind of normalize for the Russia stuff. On the MAU side, we definitely look like we’re kind of on pace to do a little bit better than what I said already.

Bryan Goldberg — Head of Investor Relations

All right. Great. So that’s going to conclude our Q&A session on today’s call. And I’ll turn it back over to Daniel for some closing remarks.

Daniel Ek — Founder, Chief Executive Officer And Chairman of our Board of Directors

All right. Well, thank you, everyone, for joining the call. And I just want to close by saying that I’m really confident and I have a lot of optimism in our business. And hopefully, this quarter was just a great testament to all of that. And I look forward to the rest of the year. And for more detail, please do check out For the Record podcast that should be dropping tomorrow or the day after. So thank you, everyone, for joining.

Bryan Goldberg — Head of Investor Relations

All right. And that concludes today’s call. A replay will be available on our website and also on the Spotify app under the Spotify Earnings Call replay. So thanks, everyone, for joining.

Operator

[Operator Closing Remarks]