I hold a 10+% position in APP. While I find this company to be among the most transparent of all the companies I follow, it remains somewhat difficult to understand their business beyond the fact that the majority of their revenue is now generated by advertising associated almost exclusively with mobile gaming. That’s impressive as they launched AXON (not to be confused with the company with that name), their AI engine, in 3Q23.
In an effort to better understand their business, I’ve been an avid consumer of analysis and commentary about this company. Last month, Bert Hochfeld published a positive article on SA. In fact, almost all the SA articles regarding AppLovin have been positive. If you want to read some, you can find them easily on SA.
I decided to read the transcript from the most recent quarterly CC because I typically miss significant comments while listening to the webcast. I was astonished by some of comments from the CEO, Adam Foroughi.
It’s hard to know how to compose this note. I’ll start by describing my understanding of the business. First off, I hate the name of the company. That’s completely irrelevant, but I think they could have come up with a much better name. Oh well.
AppLovin is in the advertising business. They also have something like 200 free-to-play mobile games. Gaming was their primary business before they got into the software supported advertising business which has rapidly become their growth engine. Lots of companies sell advertising services on the web. Companies like Google, Meta, etc., AppLovin is more like an advertising broker similar (I think) to The Trade Desk, though Adam asserted that they don’t have a lot in common with TTD.
AppLovin has two s/w products that generate the bulk of their revenue. They are Max and AppDiscovery. Max is an online instantaneous auction system that matches content providers with advertisers. AppDiscovery is a system that finds new users for mobile game publishers (more on that later). AppLovin receives a commission from every auction they conduct on Max. This is not trivial. They don’t disclose their take rate, but their transaction volume is in the tens of billions of dollars (not a typo). According to Adam, virtually all in-game advertising runs through Max. That includes companies that once viewed AppLovin as an annoying competitor, i. e., Google, Meta, etc. They have become so successful that “…no published can look away. All of our customers have scalable success on our platform.” Yes, that’s a direct quote.
During his prepared remarks Adam said, “…(customers)…tend to have a much higher appetite for spend on our platform than we can deliver today.” Think about that. Essentially, their revenue is supply constrained, they have more demand than they can satisfy.
AppDiscovery is aptly named. It finds new gamers for their customers. The revenue from AppDiscovery is completely performance based, if they don’t find customers per the agreement they have made with a customer, they don’t get paid. During the Q&A Adam provided the following example in response to an analyst’s question: “We’re very accurate today. let’s say that the advertiser says, I’ll spend $1,000 today and I want to get it back in 30 days we get that within 1%, they get $990 - $1010. But we can only deliver that within the $1,000 & 30 day parameters. Tomorrow we tell him we can deliver $2,000 in 30 days. He’ll put it on a credit card if he’s not got the cash. There’s an unlimited spend tolerance.”
As Adam put it, their customers are buying at a profit. Can you think of any other business that can make that claim? As noted above, their revenue is supply constrained. They know what they can provide and they refuse to take any business for which the campaign goals cannot be met.
So, what kind of growth can be expected? They do not provide a fiscal year guide, they only guide for the next quarter. But, Adam provided the following illustration of the growth they anticipate. There are a couple of different ways to look at this. So first, the steady state case. That means that they simply keep doing what they are now doing. They project that their steady state is 20% - 30% growth per annum.
Adam broke it down like this: In order to deliver 20% - 30% a year each quarter needs to produce 5% - 7% more revenue than the previous one (he’s done his homework, 5% quarterly yields 22% annual growth, 7% quarterly yields 31% annually).
Here’s where the revenue growth comes from. First, there’s just the natural growth of the TAM. Though mobile gaming is growing pretty slowly, that’s not exactly their market. Their market is mobile gaming advertising which is growing somewhat faster at about 2% - 3%. As they sell more advertising service, they collect more data the predictive ability of AXON thereby improves, that brings in another 2% - 3%. So that alone brings them to the bottom of the range. At the same time, their R & D budget is about 15% of revenue. The incremental improvements they implement provides a step function increase in revenue which accounts for the additional 2% - 3% to reach the top end of the range.
But, I mentioned that there are a couple of ways for them to grow revenue. Though they currently work with the mobile gaming vertical of online activity, there’s nothing that stops them from addressing other verticals. And in fact, this is exactly what they are doing. Currently they have a pilot project involving ecommerce. The pilot has been running for only a couple of months but Adam asserted that results were very promising. Assuming that trajectory continues, they expect to scale up and have material contributions to revenue in 2025 (it was not made clear if that refers to CY or FY).
During the Q&A Adam was asked why they were confident that the body of data that they have accumulated from game players would be useful in an entirely different vertical. His reply was, “That data is able to be used across anything. These are human beings, not just mobile gamers and the audience skews female and middle age.” The answer is apparently being born out by their ecommerce pilot.
Additionally, not too long ago AppLovin bought a company called Wurl. I know nothing about Wurl other than this company is engaged in the connected TV (CTV) business in some capacity. This is the vertical that Jeff Green, CEO of TTD mentions frequently. AppLovin actually bought Wurl’s data, I have no idea whether or not Wurl is still a functioning business and whether or not it contributes to AppLovin’s revenue - if it does, it is not separately reported.
All in all, I am very enthusiastic about my investment in AppLovin (despite the company name). I will probably increase my position. I have trouble seeing the bear case. Please, feel free to enlighten me if there’s some glaring red flag (or even a yellow flag) I’ve overlooked.
I suppose there might be a concern about monopolistic practices. The DOJ just filed suit against a company called RealPage, a very different company built around an AI engine. Other than the use of AI I don’t see any similarity between the two companies, but I’m not an attorney and I don’t work at the DOJ.
I know this is very long post. Thanks for reading if you actually got to the end.
