Motley Fool Hidden Gems Investing - Twilio's Layoffs, Spotify's Strategy

Episode Date: February 13, 2023

For the second time in five months, Twilio announces a round of layoffs.  (0:21) Jason Moser discusses: - How Twilio is cutting costs as they grow - What to watch when the company reports earnings on Wednesday afternoon - Memorable ads from Super Bowl 57 (13:20) Ricky Mulvey talks with Bloomberg entertainment reporter Lucas Shaw about the state of Spotify's business, its podcasting strategy, and whether they need to raise subscription fees. Stocks discussed: TWLO, BKNG, WDAY, GOOG, DEO, SPOT, AAPL Host: Chris Hill Guest: Jason Moser, Lucas Shaw Producer: Ricky Mulvey Engineers: Rick Engdahl, Tim Sparks Learn more about your ad choices. Visit megaphone.fm/adchoices

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I'm Chris Hill. Joining me today, Motley Fool Senior Analyst Jason Moser. Happy day after the Super Bowl. Happy day after the Super Bowl. I hope that your feeling is good as I am. I mean, like, you know, wasn't out causing too much trouble last night, wasn't drinking too much, no regrets. You know, how about you? Same, although I understand why there is apparently some sort of online petition to get the NFL to change the game to Saturday. I understand why. I don't think the NFL is going to do that. We're going to get to the business of the Super Bowl ads in a second. Before we do that, can you remind me really quickly, I feel like at one point,

didn't we as a company try, at least experiment with taking Super Bowl Monday off? Did we not try that one year? I feel like maybe we did. I think there was a time, there was one I think we tried that. We may have. Maybe I'm wrong. It was many, many years ago. The fuzzier my memory gets. Let's start with Twilio, which is going to report earnings on Wednesday after the closing bell, but made news today because for the second time in five months, Twilio is cutting its workforce. This morning, the cloud communication software company announced plans to cut 17% of employees. Back in September, Twilio laid off what was at the time 11% of

its workforce. Founder and CEO Jeff Lawson said the cuts are a painful but necessary step as the company reorganizes its business units. We've said before that we're going have more companies, particularly in the tech space, announcing layoffs. I feel like this is also a harbinger of what's to come in terms of companies announcing a second round. Yeah. I think we talked about this as 2022 was closing out, we were going into 2023 and we're thinking this is going to be the narrative of at least the front half of the year, is these layoffs. I think we were all in agreement that it would likely turn into a second round of layoffs, so to speak. That's good in that if you're a company, you want to take this slow,

you don't want to go too far, you don't want to overkill and fire too many people. Then in hindsight, realize that you need some of them back. Taking this step-by-step makes a lot more sense. It's a lot. If you put this on top of the 10% of the workforce that Twilio already let go earlier, that's 17% additional. They've let go of more than a quarter of their workforce now. But it makes sense. This is something where CEO Jeff Lawson made very clear in the note that he published, the e-mail that he sent to employees, it's a difficult thing to have to do, but the facts have changed." He said, I quote, "...both the reorganization and the reductions increase our ability to drive profit and growth, both of which are required

in this new environment." It's this new environment where, for a long time, these companies were able to get away with a lot. I think those days are probably over, if not for good I think for a long time to come. We talk about, for investors, a great quality to have as investors is to be able to change your mind when the facts change, because the facts change often. To me, this is a sign that Jeff Lawson is willing to change his mind when the facts change. Now, it's not to say that this is necessarily the magic bullet and everything is taken care of, but I think this is a step in the right direction for the business and ultimately investors. Again, it's a shame that you see folks having to lose their jobs because of this, but at

the end of the day, businesses need to exist. In order to do that, they need to be efficient to a degree. For Twilio, as early as it is in its life stage, it still needs to get to that consistent and sustainable profitability, and this is one more step in that direction. This is a company that is roughly one-sixth the size it was from a market cap standpoint less than two years ago. When you look at Twilio and you look at the business and the opportunities in front of it, where do you think this company is going? Because I'm sure there are some people who think that Twilio is on its way to being acquired by a larger tech company. But by the same token, I bet there are some investors that think that

this is a company with a pretty attractive-looking stock price compared to where it was. I think it is. I think there's always a chance that a company like this gets acquired. To me, as someone who's recommended the company, and as someone who owns the stock myself Personally, I would much rather watch them do this on their own. I'd rather watch the story play out sans acquisition, so to speak. To me, it's interesting to watch this business evolve. It went from a very simple communications, text-based company to now it's communications and software and customer engagement, and ultimately viewing themselves as a customer engagement platform. I think today more than ever, now more than ever before, it's more like a

sales force in that regard. When you start lumping a business into that category, you start to see the market opportunity that exists for a business like this today, which is still sub $5 billion in annual revenue. Again, going back to changing your mind when the facts change, you see companies, A lot of these tech companies are cutting costs when growth hits a wall. In Twilio's case, they're cutting costs when they're still growing. That's an entirely different proposition. They are still small enough in capturing this nascent market opportunity that they're still growing. You look back to the third quarter that they just reported recently, they reported 32% percent organic revenue growth. They're guiding for around 19 percent organic revenue growth for

this fourth quarter that they're getting ready to announce on Wednesday. I think what 2023 looks like will be even more interesting, particularly when you consider the timing of this announcement that we got today. Because the glass-half-empty investor might say, hey, they made this announcement today, they're getting ready to guide down to single. This earnings report is getting ready to be pretty bad on Wednesday. I think that's a reasonable assumption. I'm not saying that's what's going to happen or even what I believe, but I think the glass half-empty investor might look at this and say they're getting ready to guide for some challenging growth prospects in 2023. This is meant to get ahead of that and maybe steer focus away from that. Time will tell. We

have to wait for Wednesday to see what happens. But we do know at least that in regard to the results that they're going to report on Wednesday, the 8K that they released earlier today said that they met or exceeded the guidance that they laid out. We know that revenue growth was at worst 19%. Maybe it's better, maybe it's worse, but I think really it's more, let's focus on what they see playing out here for 2023 and beyond. Because I think ultimately that's the big story for this company. Now they've gotten some religion here on the expense side of the business and they're going to cut that back. Let's see if the growth is still there, because if that growth is still there and they're cutting back on this cost structure now, this could prove to be a very opportunistic

stretch for investors willing to be a little patient. There were some 30-second commercials for the Super Bowl last night that cost more than $7 million, and that's just for the time, that's not for the production of the ad and if they involve celebrities, whatever they were paying the celebrities. I will point out before getting your thoughts on what struck you either very positively or very negatively, that the most watched ad from the Super Bowl on YouTube was the Booking.com ad with Melissa McCarthy, which I thought was an entertaining ad. But I watch these now, not just as a football fan and that sort of thing, and someone who is interested as a consumer, but I, for years now, have watched these ads as an investor

and just thought, okay, is this a good use of money? The Google Pixel ad, as an Alphabet shareholder, I thought, okay, that's a good ad. They're showing off the product in a very straightforward way, in a fun way. As an Alphabet shareholder, I was happy with the Google Pixel ad, but whether you're a shareholder of any of these companies or not, what stood out to you? Yeah, that's really funny, the Melissa McCarthy ad. I remember that it was a booking.com ad, I really can't tell you much beyond that. It was a very forgettable ad for me, I guess, in that regard. Even before the game, I think I had slacked you guys the link to this commercial. We talk a lot about Breaking Bad and Better Call Saul in our little group

here at Warwick. To see that Popcorners ad was a lot of fun. I'm always a good mark for some good Breaking Bad shtick and I thought that was terrific. I enjoyed that a lot. To me, I couldn't care less about Ben Affleck and Jennifer Lopez, but I thought that Dunkin' commercial was awesome. I thought it was great. It reminded me a little bit of the Saturday Night Live spoof on the Dunkin' commercial. For me, whenever I see that stuff, Ben Affleck, one of his greatest qualities, I think, is he's just happy to make fun of himself. He's very self-effacing, I think, in that regard, which is a lot of fun. And that commercial, I thought, really hit home for me. So, yeah, the Booking.com one, I don't know that it really stood out to me so much.

The other one that really stood out, and I guess I need to make sure, I assume this is one that was actually aired during the game, but the Brighter Boston Samuel Adams commercial, did you ever see that one? I did not see that. Did that air during the game? I'm not even positive it aired during the game because I saw it on YouTube. I assume it aired during the game, but I thought the Brighter Boston Samuel Adams commercial was very funny. Essentially, this take on Boston is stereotypically a very rude city with rude people. Hey, listen, I'm a Red Sox fan, so I'm not judging. But this commercial was just a play on just the total polar opposite of that, like a Brighter Boston where everybody was friendly. Instead of dumping a

body from the trunk of a car. He's dumping his recycling." I thought that was a very funny commercial. To me, this was probably one of the better years of Super Bowl commercials. For a long time, I've been critical feeling they jumped the shark, but this I felt like was a better year for them. It's always fun to watch how creative they'll get. I also thought whatever money, and they have all the money in the world, but whatever money Apple spent on the halftime show, that appeared to be money well spent, because Rihanna just not surprisingly put on an amazing show. I am assuming that that is going to move some product, as they say, in the Apple Music division. I'd imagine so,

and I'd imagine even more so it will push some of her music, particularly whenever she decides to go tour again. That is something where I think we've seen over the past several years, there has been a very explicit connecting of the dots where, yes, the musicians, the artists, they're not getting paid to do this, but the result, the exposure, this really boosts the purchase of their music, the purchase of their touring act. Altogether, it's certainly understandable if you're an artist why you do it. Also, Chris Stapleton doing the National Anthem. Just having him up there, playing the guitar, it was one of those things. Whoever they get to sing the National Anthem always has a great voice, but just watching it,

I was like, oh, yeah, I think this is what I want from now on. It heightens the experience. He's playing the instrument while he's also singing. He did an amazing job. I can appreciate that. While I know everybody can be critical, I mean, let's all just take that really for what it's worth. I mean, just take two, two and a half, maybe three minutes, just embrace whoever's doing it, why they're doing it. Recognize it is a really hard thing to do. I mean, it's like the halftime show. I'm not the biggest halftime show guy in the world. They could ditch it for all I care. But by the same token, man, I fully recognize that number one, Rihanna is a very, very talented individual. And number two, the work that went

into the choreography of that act. Man, I am no dancer, Chris, and so when I see something like that, while I don't really care to do it, I recognize the talent and the work that goes into doing it. Just, hey, recognize it for what it's worth and say, hats off to you, you did a good job. Jason Moser, thanks for being here. Spotify has more than 200 million paid subscribers. Despite that, the audio streaming business is having a hard time making a profit. Lucas Shaw is an entertainment reporter with Bloomberg, and Ricky Mulvey caught up with him to talk about Spotify's podcasting strategy and if the company needs to raise prices.

Before we get started, I got to note that The Motley Fool has positions in and recommendations for Spotify. We've also got a content partnership with the company. That's not a fun introduction. Lucas Shaw, you've pointed out in your reporting that Spotify is in the spot where it has a much larger share of the audio business than any streamer does in video. Its biggest competitor isn't even in the audio business, really, YouTube, and yet it's losing money every single year. Why is it so difficult for Spotify to make a profit? Because no music streaming services make a profit. The record industry collapsed, really, when piracy came around and devalued or eroded the value of all music to almost zero. So you

saw industry profits or industry revenues fall from their peak in 1999 and just continue to plummet throughout the century. When streaming first came along, the music industry did something that was very smart for their business, where in order for Daniel Ek, the co-founder and CEO of Spotify, to get the rights to music, music companies, they created this model whereby Spotify and other music streaming services would pay music companies, you know, more than 70% or about 70% of their revenue just out the door. So the challenging part with that is it means that kind of no matter how Spotify or how big Spotify gets, it's always spending, it's always giving 70% of that money to these rights holders, right? You think about it in comparison to a business

like Netflix, which is more of a fixed cost business. They've had to spend a ton of money to get users and make these shows. But at a certain point, if they want, as they're doing right now, they can just stop spending. And they're going to hope that they can keep growing their revenue. Spotify can't do that. They keep growing their revenue. They're also growing their costs. I mean, with respect to Spotify, though, they essentially have a model that so many marketers would kill for, which is half of their users are paid members. And it isn't a surprise for these music royalties to be expensive. This is a totally unfair comparison. But grocery stores, for example, 80% of their expenses are out the window and then they have to essentially run a

grocery store. I mean, has this been a surprise for Spotify or was the hope that podcasts and audio books would swoop in and that would eventually turn them into being a profitable company? Yeah. I mean, I think they had hoped that they would figure out how... Look, you have hundreds of millions of users, right? Spotify, I think, has succeeded in that sense beyond Daniel X Wildest Dreams, they figured that they would learn how to make money. They experimented with sort of enabling direct uploading where artists could just put their music right on Spotify instead of somewhere else. It seemed like a good idea, but that really only works if Spotify is the only distribution platform that matters. Obviously, YouTube matters a lot. Apple Music

matters a lot. Amazon matters a lot. Now TikTok in a different way matters. And so that wasn't really possible. You know, maybe they had hoped that they would get music companies to eventually, you know, give up, see how good Spotify was for them and, and, and kind of give up more of their share. They've had a little bit of success there, but not enough to make a huge difference. They've experimented with sort of charging music companies to advertise within the platform that's generated some revenue, but it hasn't, you know, changed the margins completely. And this is really one of the big reasons that they ended up going into podcasting and now audiobooks, because they sort of had this big pool of users. And now they needed to create

a source of revenue that the music industry couldn't take. And so one of their key strategies has been, if they can build a big advertising business that has ties to podcasting, that's revenue that they can keep for themselves or share with those content creators, but have a different financial structure than they have with the music business. It seems like the podcast strategy fell into two buckets. One was outright buying studios like The Ringer, Gimlet, and Parcast. The second is sort of this Las Vegas residency approach that I'll call, which is you have an established podcaster with a large audience, and then they sign over exclusive rights to Spotify. Dax Shepard, Joe Rogan being examples of that. Why do you think this hasn't been as effective

as Spotify would like? Why do you think they need to pivot? Well, I think they would push back on the idea that it hasn't been effective, right? They would say, Joe Rogan is a really successful podcast and those acquisitions got us in the game. And now you look at it and, you know, rather than rather than go on it on a deal by deal basis, they look at it holistically. We now are the biggest podcast platform in the world. There are, you know, more than 100 million people who listen to podcasts on Spotify. We're building up markets in all these places. And I think that's true, right? It's not as though this has been just some catastrophic failure. What I think Spotify got wrong though, or, or, and, and, and they really only learned through failure is they were hoping

that they could create a bunch of their own hit products, right? Like that they would do deals with famous people and that those shows would become hit shows that they would buy these studios and those studios would create a bunch of new hit shows. And while there've been a few kind of moderate success stories, for the most part, the most successful podcasts that they brought on are podcasts that already had a following and a platform. And so they spent a lot of money on projects that didn't really move the needle. The other thing that I think may have surprised them a bit is that they hoped, I think that podcast would, would lead to like a huge surge in subscriptions. And, but the weird thing is that they didn't really create a subscription model

for podcasting, which I think some people think they should have tried. And now Apple is doing, I think with, you know, at best mixed success. Um, and, and so it took them a while to figure out that their business around podcasting was going to be advertising and they needed this ad tech around it. Um, so I, I think it's, it's, you know, they made the sort of the classic mistake of going into a new industry, spending a lot of money, you know, a lot of it was misspent, but they've figured it out and figured out what's going to work. And it's really now, up to them to find the best way to make money from these podcast listeners they have on the platform because that's the problem. It seems like the biggest success for

original podcasts has been in fiction. And I remember a couple of years ago hearing some podcast industry executives saying that that was where they were really bullish on. And I'm surprised to see Spotify not essentially go into that more. They have a deal with DC and Batman Unburied seemed to be a big success for them. But have you seen successes in their strategy so far? I mean, it's easy to dunk on the celebrity podcasts where, what is it, the Obamas come in, do 15 hours of audio, or the Royals kind of do a similar thing, and it doesn't pick up the audience that they'd like. But have there been examples of not just failures, but successes through this strategy? Yeah. I mean, look, the Obamas, I think,

as a broader deal, maybe people aren't so satisfied with. Michelle Obama's one show was really popular, right? The problem is, is that it was limited run. So only so many episodes, she didn't produce a bunch of new, new seasons. You know, I think there was maybe a hope that Spotify would, has pushed back on this, but I think people at Spotify thought like, oh, if we can get Michelle to, you know, host 16 episodes a year or something, or even more than that, like that would be amazing. And she was like, well, you know, I'll give you a season of a show. And then I just want to, you know, produce a bunch of shows that kind of lift up other voices. And so there's a bit of a strategic disconnect there, but her show works. Similarly,

I think the Meghan Markle show has an audience, right? But they spent a lot of money for one show that has a pretty small number of episodes and isn't a huge needle mover. So I think it's been a lot of things like that on the celebrity front. Some of the acquisitions, look, The Ringer was a good deal. Bill Simmons' podcast is still very popular. That whole network, I would say, is one of, if not the leading network in sports podcasting, to some extent in pop culture podcasting. I guess, full disclosure, I contribute to a show in the, in the ringers network, you know, podcast, which was another studio they bought has had some successes. You know, the real, the real struggle from an acquisition perspective they had was they

bought this company Gimlet, which was supposed to be sort of this home for high end podcasts sort of audio documentaries, its biggest show reply all sort of went down, kind of got destroyed by this kind of internal scandal or, or dispute. And Gimlet really didn't produce any new hits. and I think was in a lot of ways sort of a sign of how hard it was to break through with new shows. You've mentioned that Spotify has had a shift from trying to be like Netflix, now trying to be a little bit more like YouTube. Something that strikes me though is it's also one thing it's not trying to be, and that's radio. They've pulled back on this, it was a playlist

called The Daily Drive, it seems, where you would get a little bit of news, music, short form podcasts and also live talk spaces. Why the move to be more like YouTube? Well, because of a lot of what we discussed, right? The Netflix strategy was around, let's create these big original shows that will mean that people feel that they have to subscribe to Spotify. And I think they quickly realized that one, there was only going to be so much user acquisition that way. Two, it was hard to create new hit shows. And three, a lot of those originals are comparatively expensive, right? Podcasts are not as expensive as making a TV show. But Spotify, at the same time it was pursuing that strategy, was buying these different tools and kind of tech companies for kind of distribution of podcasting and advertising sales.

And you think about the core of Spotify, and it's really more of a kind of a classic tech platform than a media company. You know, Netflix still has a platform, but almost all of its money is spent on original programming. That's where the majority of its employees now work. It's a, it's more of an entertainment company than a tech company. Spotify just sort of philosophically has always been more like a Google or like a YouTube, a Facebook and Instagram. It's a platform where it wants anyone to go and upload things. Now it does create and fund some of its own projects, but those are such a small amount of sort of the overall, the overall output. And so there's the philosophical kind of alignment, but also again, from a business perspective,

because the subscription part of podcasting they didn't really crack advertising is really the you know the primary way most podcasts make money and so i think spotify has seen an opportunity that if they can become the biggest podcasting platform and have ad tech that everyone has to use and sort of build an ecosystem like youtube where you know any advertiser that wants to reach young people through audio is going to going to do a deal with them and anybody who uploads is going to share their ad revenue with them that could be very lucrative they're certainly not there yet But I understand the kind of the potential and the target. I'm also curious to see when you see more local businesses advertising on Spotify.

You know, you mentioned that you feel like they don't talk about radio. I think they do see themselves a lot like radio, right? Like that radio advertising money is something that they want to bring over. But I think the reason that they don't make the comparison sometimes to radio, because they have talked about like Daniel has talked about, there's $18 billion in global radio ad spend or whatever that's going to come over. But they don't want to limit themselves to radio, right? I think there's a concern that if they're just fishing for those advertisers, it's going to be not as big a business as they

want to be, right? They want to be seen as something that could be a $100 billion business, not a $30 billion business. You surveyed about 50 people in the music industry about trends, and there was a broad consensus that Spotify needs to raise prices. Did that answer surprise you? And do you think that has to do with the cost of music royalties? It definitely didn't surprise me. People have been frustrated by the cost of Spotify for a while. Also, you look at its peers. Apple has already raised prices. One of the reasons that people thought that Spotify might not is because it was trapped a bit by its competition. Its biggest competitors are these massive tech companies that don't care as much that they're not making money from audio because Google makes a lot of money from search and Apple makes a lot of money from phones and Amazon makes a lot of money from selling you

pretty much everything. And so as soon as some of those peers move, it feels inevitable that Spotify will do it too. I think the question is sort of how much from a pricing perspective they can get away with. And look, maybe they'll continue to try to present themselves as the more affordable option. But there's long been frustration, especially if you look sort of outside of wealthy territory that a lot of the user growth Spotify's had recently

has been in poor countries where they're not charging very much. And so the user number looks great, but the revenue number for the music companies isn't so great. Speaking of personalized recommendations, Lucas Shaw has a newsletter called Screen Time. You also contribute to a podcast called The Town.

Your colleague, Ashley Carman, also gonna recommend hers. It's called Soundbite. Both are worth a follow. Lucas Shaw, thank you for your time. Yeah, thanks for having me. As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against,

so don't buy or sell stocks based solely on what you hear. I'm Chris Hill. Thanks for listening. We'll see you tomorrow.