Housekeeping
Like always, it goes without saying that what I write in these posts is not financial advice, and the opinions here are solely my own.
Idea Generation
In the last edition I wrote about Peter Lynch’s One Up on Wall Street, and I will continue to shamelessly produce content based on his knowledge because the book is a gem on stock investing. I also lack original ideas, so there’s that.
This week I want to focus on one particular aspect of investing that a lot of us don’t often think about: generating ideas to research. Focusing on your domain of expertise/interest can be a powerful approach to begin this process.
Lynch touches upon this in the book, dubbing it the power of common knowledge:
“During a lifetime of buying cars or cameras, you develop a sense of what’s good and what’s bad, what sells and what doesn’t. If it’s not cars you know something about, you know something about something else, and the most important part is, you know it before Wall Street knows it.”
In fewer words, you can be an expert on the products you use everyday and/or are passionate about.
Naturally, this (your daily environment) should be the first place where you look for investment ideas. Of course, there’s no skipping the research. Understanding the product is a fantastic start, but you have to understand the business if you want to be an investor.
One good place to look is in your own phone:
The apps we use everyday have become essential for our lives. Because of this we’re quite knowledgeable about the quality of these apps, the user experience, the features we love, and the reasons why we choose them over a competitor’s app, for example.
Let’s take a look at the two apps I use the most: Twitter and Spotify (my use of Spotify is not fully reflected since it’s always in the background whenever I commute somewhere, so it doesn’t really show up as “screen time”).
TWTR
First, yes, I know that my Twitter addiction is unhealthy. But Twitter is such a powerful tool in today’s world. As an information hub, Twitter is the future of knowledge sharing, be it news, research, data, opinion pieces, shitposting, memes, etc. It’s simply undefeated in terms of the quality of content you can find when compared with other social media platforms, and some of the smartest people in the world choose Twitter as their preferred social communication channel. At first glance, business growth has been solid:
And yet, the stock is barely above its IPO price:
Wait, what? The best knowledge sharing platform of our generation has returned basically nothing as an investment? This is why I was saying that simply buying companies that you know is not enough. If we look under the hood Twitter has had massive issues trying to successfully monetize their users, to navigate the political landscape around free speech and censorship, to instill a sense of confidence with investors regarding management, and to grow.
Case and point, during 2020, a year in which people around the world were stuck at home, revenue growth slowed to 7.43%! We were all at home shitposting and Twitter only grew revenues 7%. Also, gross margins have trended lower since 2018, and they continue to burn cash every quarter.
One of the company’s biggest problems is that user growth in the US has basically flatlined. US Advertising Revenue still comprises over 50% of the company’s ad revenues. From an anecdotal perspective, I’ve heard that Twitter’s ad algorithm is not the best at producing results for businesses, unlike Facebook’s.
Furthermore, having Jack Dorsey as a part-time CEO wasn’t particularly helpful:
The market initially liked the fact that Dorsey was stepping down as the stock rose >10% before trading hours, but after his successor was announced it seemed investors were not particularly thrilled with the replacement.
The company has been experimenting with some promising initiatives, such as Twitter for Professionals, the Shop Module, Spaces, and crypto payments, but only time will tell if the new management is able to unlock the platform’s significant value and capture more of it for shareholders. Twitter will continue to depend on management’s execution, so I lean towards the negative side.
SPOT
Can I just say, on behalf of everyone, that nobody gives a shit about your top songs and podcasts for the year? With that out of the way, Spotify has done a much better job than Twitter at capturing value for shareholders. The company has a clear strategy to be the go-to platform for everything audio.
Spotify’s MAUs and financials have seen good growth:
Just like Twitter, they built a great product that people love to use. Spotify’s product is so good, that it has almost single-handedly revived the music industry after the 2000’s issues with piracy:
The main difference with Twitter is that Spotify cracked the monetization problem. While the company has almost 400 million MAUs, only 172 million are actually paid subscribers. These 172 million “premium” users generate the vast majority of the company’s revenues:
I see enormous potential in the company’s runway for add-supported revenue. Thinking about it, Spotify has managed to do something no other large tech company could: they made it cool to track your data. It’s a win-win scenario for the company. If they convert users to premium users, revenue will grow, if they don’t convert they can still boost ad-supported revenue, with some differences on margins of course. Content creators also love this approach from the company.
They’re investing heavily in “capturing the whole ear”, essentially making the platform a one-stop-shop for any audio related experience, be it music, podcasts, audiobooks, news, education, etc. More content means more users who listen to more hours of content, which in turns helps the algorithm to recommend the best content for each user, boosting the effectiveness of ad targeting. Happy creators generate more quality content which in turns attract more users. Not a bad flywheel.
Investments in Gimlet Media, Parcast, Anchor, Megaphone, and Findaway show the company is serious about dominating audio. Their strategy is bold and uncertainty is high, but the focus is correct and execution has been strong so far. I lean towards the positive side with Spotify.
Wrapping It Up
I don’t own TWTR or SPOT (yet), but it’s an interesting exercise to take a look at the companies whose products you use and know the most in order to determine whether they could be good investments. I’m sure you will be surprised at some of the insights you’ll discover!