Applovin reported revenue of $1.26 billion compared to consensus of $1.28 billion according to some sources yet others reflect the consensus we had of $1.22 billion, thereby it’s debatable if the top line beat. Our notes show App beat, although narrowly.
Management had guided last quarter for revenue of $1.195B to $1.215B, representing YoY growth of 69.5% at the midpoint. By this standard, as well, Applovin beat with growth of 77%.
On the bottom line, the company had a large beat with EPS of $2.39 compared to $1.99 EPS expected, representing growth of 169%. This was a 45 point beat on growth rate for the bottom line. Adjusted EBITDA doubled to $1.02 billion, up from $943 million last quarter. This represents an adjusted EBITDA margin of 81%.
As management alluded to on the earnings call, the company “prints cash” with a 61.3% operating cash flow margin and a 61% free cash flow margin.
The Q&A was primarily focused on when Applovin plans to launch its self-serve ad platform, as this should create a boost for growth. Management was encouraging saying “as soon as possible” yet the tone on the earnings call was particularly optimistic about Q4 being a bigger quarter for the company. Details on why management had the confidence to call out Q4 specifically are noted below.
Revenue
Regardless of a nominal decimal point that caused a beat (or miss), the quants may have quickly sold the report after hours from mistakenly pricing Applovin for a deceleration from the March quarter to the June quarter.
Overall revenue last quarter was $1.48B versus this quarter at $1.26B. As we covered in the past, this is due to Applovin divesting its mobile gaming “Apps” business, with the sale completed on June 30th. Therefore, if you adjust for this sale, revenue for the ads business in Q1 was $1.15B for QoQ growth of 8.7%.
The current quarter marks an acceleration from 71% YoY growth yet QoQ growth is slowing.
For next quarter, Applovin expects to see $1.33 billion in revenue, slightly above estimates for $1.31 billion. This represents 59% YoY growth and QoQ growth of 5.5%.
As stated, Applovin divested its Apps business, which was weighing on both growth and margins. For example, Applovin had been reporting low growth in this segment of (13%) growth in the March quarter leading up to the sale.
Margins and EPS: Operating margin doubled to 76% … what?!
Applovin’s revenue growth is only part of the story, whereas the bottom line is what sets Applovin apart. I can count on one hand (or maybe even one finger) the number of tech companies that have reported a 76% GAAP operating margin.
It may be common for tech companies to be in hypergrowth stage at times, yet very few ever reach the quality margins that App is reporting quite early in its company history.
The bottom line presented below is a thing of beauty. The margins have clearly benefited from divesting the Apps business, which had been weighing on the margins.
Gross margin of 88% compares to last quarter at 81.7% and the year ago quarter at 73.85.
Operating margin of 76% expanded from 44.7% last quarter and more than doubled from the year ago quarter at 36.2%. Wow!!
Net margin of 65% expanded from 38.8% last quarter and doubled from 28.7% in the year ago quarter. Wow!!
Earnings per share of $2.39 beat estimates for EPS of $1.99, representing growth of 169%. This was a large beat as growth was expected to be 123.5% on the bottom line.
Cash Flow Margin of 61%
In yet another impressive bottom-line number, Applovin reported a 61% free cash flow margin for free cash flow of $768 million. The company has been strong on cash for sometime, yet this still represents a 540 bps expansion QoQ and 20-point expansion YoY.
The operating cash flow margin of 61.3% is up from 56% last quarter for operating cash of $772M. The company has $1.2 billion in cash on the balance sheet including $425M from the sale of the Apps business. The company has $3.7B in debt.
Applovin does share buybacks with 900,000 shares repurchased in the last quarter for a total of $341 million funded through free cash flow. This lowered share count form 346M to 342M last quarter.
Earnings Q&A:
Self-Serve platform set to launch October 1st
Management has repeatedly stated that gaming alone can sustain growth of 20% to 30% YoY. Therefore, the catalyst for the next few years is securing additional supply, such as e-commerce, as well as opening up the AXON ad platform to more advertisers.
The AXON ads manager recently became self-service, which means it can scale at levels not previously seen by offering self-service interface for Applovin’s 1 billion reach. As of now, Applovin is limited in the number of advertisers it can manually on board. According to the opening remarks: “With the rollout going smoothly, we are ready to widen access. On October 1, 2025, we plan to open the AXON ads manager on a referral basis, perfectly timed for the holiday season. Feedback from these partners will guide our global public launch in the first half of 2026. To date, web advertising campaigns have been limited to the United States. On October 1, we plan to open our platform to most major international markets.”
When it comes to e-commerce, Applovin explained they limited the number of advertisers initially in order to make sure the tools were working properly, and they are now satisfied with the results and ready to launch self-serve on an invite basis to start.
Per the Q&A:
“And then the last point to remember is another one of my prepared remarks highlighted the fact that we have constrained the advertisers we even have live today by not allowing them to buy our audience that's international. The vast majority of our user audience is outside the U.S. We will be releasing almost all markets once we go into this October 1 release.”
Looking longer-term, by matching categories such as e-commerce with a self-serve platform, Applovin discussed a flywheel effect: “So in terms of opportunity for us, not only does opening up the platform get us more demand, which is going to be massively accretive and incremental to our business. It gets us more data. And so every single quarter, you're going to have that flywheel effect that, that then paired with our engineers' ability to take added data and improve the technology and its interpretation of that data creates a real strong foundation for growth for a long time to come.”
Commentary that Q4 will be strong:
During the Q&A, there were a few mentions that Q4 should be strong along with mention of upside to the numbers come 2026.
I want to make money in 2026 about as much as I want to make money in 2025, so this kind of discussion is my favorite moment during an earnings call (…and is the reason I take the time to listen to these calls and not run the transcript through Chat-GPT, like many, many research sites do these days!)
Here’s one example:
“We expect that will increase the advertiser count quite quickly and also allow us to go through live examples of advertisers coming in self-service all the way to scale on our product. Assuming all that goes well, then we talked about opening up the platform entirely to the world in first half of next year. We think as advertiser count grows on our business, especially in categories outside of gaming, you're going to see a lot of upside in the numbers that we're able to report.”
Here was a more specific mention to Q4:
“As we go into Q4, that's a huge holiday shopping season. So not only are you going to see the cohort that we have live spend a lot more. You're also going to have new onboarding happening for the first time in our history at a rate that's much higher than we will have ever seen before. So we fully expect that e-commerce will see a pretty substantial ramp-up through that, what you can call a soft launch period and then, obviously, as we go into a broader global release, the impact from that.”
It was repeated again with more details around the compounding effect of onboarding the many new advertisers for existing gaming inventory and also new categories:
“Now it's not necessarily true that we're going to take our queue that's built over the last year and just say, everyone you're in. They're still going to have to get invited to get into the platform. So it will be still curated onboarding. The reality is like Q4 is going to end up being a fun quarter. You've got the advertiser cohort that we didn't have last Q4 that was growing in the quarter to the point where we reported huge numbers and then had huge numbers in Q1. But we're going to have those advertisers primed and ready to go for the full Q4. We're going to have advertisers inviting their friends onto our platform in Q4, and we're going to be opening up international all at the same time.
So there's going to be a lot of fun moment — moments for us and our customers in this e-commerce or web-based category that will set sort of a new baseline for that business. And then obviously, then we will go through hopefully another inflection when we really truly open up the platform and try to get into a state where we're more stable long term.”
Quick Note on 2026-2027:
Although further out, there was talk that lower fees on the App Store should become a tailwind for Applovin 4-8 quarters out: “So no impact yet. And I would guess it will probably take 2 to 4 quarters from some impact. And by 4 to 8 quarters, you're going to get pretty material impact in pricing on our platform.”
Conclusion:
I’ve never been one that needs the market to agree with me, and I am afraid on this one the market and I will have to agree to disagree as the price is down after hours. This was a stellar report with all fundamental boxes ticked, a team that has proven to execute, and incoming catalysts that are quite well-timed to where the market is selling the stock while we maybe have two quarters (or less) to wait for an inflection.
Of course, this requires some speculation as consensus will not reflect management commentary until there are material results. But after all, that’s where the real money is made. Let's hope the formula of "believe what you see" works for us again as the growth, historic margins and the ability to print cash all point toward a solid stock while management hints they have more in store for shareholders around year-end.
Please note: The I/O Fund conducts research and draws conclusions for the company’s portfolio. We then share that information with our readers and offer real-time trade notifications. This is not a guarantee of a stock’s performance and it is not financial advice. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis. Beth Kindig and the I/O Fund own shares in APP at the time of writing and may own stocks pictured in the charts.
Applovin reported revenue of $1.26 billion compared to consensus of $1.28 billion according to some sources yet others reflect the consensus we had of $1.22 billion, thereby it’s debatable if the top line beat. Our notes show App beat, although narrowly.
Management had guided last quarter for revenue of $1.195B to $1.215B, representing YoY growth of 69.5% at the midpoint. By this standard, as well, Applovin beat with growth of 77%.
On the bottom line, the company had a large beat with EPS of $2.39 compared to $1.99 EPS expected, representing growth of 169%. This was a 45 point beat on growth rate for the bottom line. Adjusted EBITDA doubled to $1.02 billion, up from $943 million last quarter. This represents an adjusted EBITDA margin of 81%.
As management alluded to on the earnings call, the company “prints cash” with a 61.3% operating cash flow margin and a 61% free cash flow margin.
The Q&A was primarily focused on when Applovin plans to launch its self-serve ad platform, as this should create a boost for growth. Management was encouraging saying “as soon as possible” yet the tone on the earnings call was particularly optimistic about Q4 being a bigger quarter for the company. Details on why management had the confidence to call out Q4 specifically are noted below.
Revenue
Regardless of a nominal decimal point that caused a beat (or miss), the quants may have quickly sold the report after hours from mistakenly pricing Applovin for a deceleration from the March quarter to the June quarter.
Overall revenue last quarter was $1.48B versus this quarter at $1.26B. As we covered in the past, this is due to Applovin divesting its mobile gaming “Apps” business, with the sale completed on June 30th. Therefore, if you adjust for this sale, revenue for the ads business in Q1 was $1.15B for QoQ growth of 8.7%.
The current quarter marks an acceleration from 71% YoY growth yet QoQ growth is slowing.
For next quarter, Applovin expects to see $1.33 billion in revenue, slightly above estimates for $1.31 billion. This represents 59% YoY growth and QoQ growth of 5.5%.
As stated, Applovin divested its Apps business, which was weighing on both growth and margins. For example, Applovin had been reporting low growth in this segment of (13%) growth in the March quarter leading up to the sale.
Margins and EPS: Operating margin doubled to 76% … what?!
Applovin’s revenue growth is only part of the story, whereas the bottom line is what sets Applovin apart. I can count on one hand (or maybe even one finger) the number of tech companies that have reported a 76% GAAP operating margin.
It may be common for tech companies to be in hypergrowth stage at times, yet very few ever reach the quality margins that App is reporting quite early in its company history.
The bottom line presented below is a thing of beauty. The margins have clearly benefited from divesting the Apps business, which had been weighing on the margins.
Gross margin of 88% compares to last quarter at 81.7% and the year ago quarter at 73.85.
Operating margin of 76% expanded from 44.7% last quarter and more than doubled from the year ago quarter at 36.2%. Wow!!
Net margin of 65% expanded from 38.8% last quarter and doubled from 28.7% in the year ago quarter. Wow!!
Earnings per share of $2.39 beat estimates for EPS of $1.99, representing growth of 169%. This was a large beat as growth was expected to be 123.5% on the bottom line.
Cash Flow Margin of 61%
In yet another impressive bottom-line number, Applovin reported a 61% free cash flow margin for free cash flow of $768 million. The company has been strong on cash for sometime, yet this still represents a 540 bps expansion QoQ and 20-point expansion YoY.
The operating cash flow margin of 61.3% is up from 56% last quarter for operating cash of $772M. The company has $1.2 billion in cash on the balance sheet including $425M from the sale of the Apps business. The company has $3.7B in debt.
Applovin does share buybacks with 900,000 shares repurchased in the last quarter for a total of $341 million funded through free cash flow. This lowered share count form 346M to 342M last quarter.
Earnings Q&A:
Self-Serve platform set to launch October 1st
Management has repeatedly stated that gaming alone can sustain growth of 20% to 30% YoY. Therefore, the catalyst for the next few years is securing additional supply, such as e-commerce, as well as opening up the AXON ad platform to more advertisers.
The AXON ads manager recently became self-service, which means it can scale at levels not previously seen by offering self-service interface for Applovin’s 1 billion reach. As of now, Applovin is limited in the number of advertisers it can manually on board. According to the opening remarks: “With the rollout going smoothly, we are ready to widen access. On October 1, 2025, we plan to open the AXON ads manager on a referral basis, perfectly timed for the holiday season. Feedback from these partners will guide our global public launch in the first half of 2026. To date, web advertising campaigns have been limited to the United States. On October 1, we plan to open our platform to most major international markets.”
When it comes to e-commerce, Applovin explained they limited the number of advertisers initially in order to make sure the tools were working properly, and they are now satisfied with the results and ready to launch self-serve on an invite basis to start.
Per the Q&A:
“And then the last point to remember is another one of my prepared remarks highlighted the fact that we have constrained the advertisers we even have live today by not allowing them to buy our audience that's international. The vast majority of our user audience is outside the U.S. We will be releasing almost all markets once we go into this October 1 release.”
Looking longer-term, by matching categories such as e-commerce with a self-serve platform, Applovin discussed a flywheel effect: “So in terms of opportunity for us, not only does opening up the platform get us more demand, which is going to be massively accretive and incremental to our business. It gets us more data. And so every single quarter, you're going to have that flywheel effect that, that then paired with our engineers' ability to take added data and improve the technology and its interpretation of that data creates a real strong foundation for growth for a long time to come.”
Commentary that Q4 will be strong:
During the Q&A, there were a few mentions that Q4 should be strong along with mention of upside to the numbers come 2026.
I want to make money in 2026 about as much as I want to make money in 2025, so this kind of discussion is my favorite moment during an earnings call (…and is the reason I take the time to listen to these calls and not run the transcript through Chat-GPT, like many, many research sites do these days!)
Here’s one example:
“We expect that will increase the advertiser count quite quickly and also allow us to go through live examples of advertisers coming in self-service all the way to scale on our product. Assuming all that goes well, then we talked about opening up the platform entirely to the world in first half of next year. We think as advertiser count grows on our business, especially in categories outside of gaming, you're going to see a lot of upside in the numbers that we're able to report.”
Here was a more specific mention to Q4:
“As we go into Q4, that's a huge holiday shopping season. So not only are you going to see the cohort that we have live spend a lot more. You're also going to have new onboarding happening for the first time in our history at a rate that's much higher than we will have ever seen before. So we fully expect that e-commerce will see a pretty substantial ramp-up through that, what you can call a soft launch period and then, obviously, as we go into a broader global release, the impact from that.”
It was repeated again with more details around the compounding effect of onboarding the many new advertisers for existing gaming inventory and also new categories:
“Now it's not necessarily true that we're going to take our queue that's built over the last year and just say, everyone you're in. They're still going to have to get invited to get into the platform. So it will be still curated onboarding. The reality is like Q4 is going to end up being a fun quarter. You've got the advertiser cohort that we didn't have last Q4 that was growing in the quarter to the point where we reported huge numbers and then had huge numbers in Q1. But we're going to have those advertisers primed and ready to go for the full Q4. We're going to have advertisers inviting their friends onto our platform in Q4, and we're going to be opening up international all at the same time.
So there's going to be a lot of fun moment — moments for us and our customers in this e-commerce or web-based category that will set sort of a new baseline for that business. And then obviously, then we will go through hopefully another inflection when we really truly open up the platform and try to get into a state where we're more stable long term.”
Quick Note on 2026-2027:
Although further out, there was talk that lower fees on the App Store should become a tailwind for Applovin 4-8 quarters out: “So no impact yet. And I would guess it will probably take 2 to 4 quarters from some impact. And by 4 to 8 quarters, you're going to get pretty material impact in pricing on our platform.”
Conclusion:
I’ve never been one that needs the market to agree with me, and I am afraid on this one the market and I will have to agree to disagree as the price is down after hours. This was a stellar report with all fundamental boxes ticked, a team that has proven to execute, and incoming catalysts that are quite well-timed to where the market is selling the stock while we maybe have two quarters (or less) to wait for an inflection.
Of course, this requires some speculation as consensus will not reflect management commentary until there are material results. But after all, that’s where the real money is made. Let's hope the formula of "believe what you see" works for us again as the growth, historic margins and the ability to print cash all point toward a solid stock while management hints they have more in store for shareholders around year-end.
Please note: The I/O Fund conducts research and draws conclusions for the company’s portfolio. We then share that information with our readers and offer real-time trade notifications. This is not a guarantee of a stock’s performance and it is not financial advice. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis. Beth Kindig and the I/O Fund own shares in APP at the time of writing and may own stocks pictured in the charts.
AppLovin easily topped revenue and EPS estimates in Q1, but more importantly, the company is setting up for an additional under-reported catalyst with its web-based ad platform expected to launch its self-serve feature and scale with a wider pool of advertisers as the year progresses.
In addition, the company divested its App segment, which is the gaming assets portfolio, and is now a pureplay ad-tech stock. The high-growth and high-margin advertising business that ignited AppLovin’s strong returns over the past few years is now the company’s sole focus.
You’d be hard pressed to find a stronger stock in terms of fundamentals on the market today. There is plenty of runway left for this stock should the growth of 30%+ coupled with 80%+ gross margins and nearly 40% net margin continue. Consider that EPS grew triple digits this quarter and FY2026 EPS estimates are being revised higher by an astonishing $3.50 in incremental EPS.
In analysis below, we turn our focus to ways the company can sustain this growth on the top line and bottom line as we look at 2025 and beyond.
Ad Growth of 71% YoY
AppLovin reported 40.3% YoY revenue growth to $1.48 billion in the first quarter, beating consensus estimates by $100 million. This was AppLovin’s sixth consecutive quarter with revenue growth >35% YoY.
Advertising revenue increased 70.9% YoY to $1.16 billion, slowing slightly from 91% in the year-ago quarter. Management said growth was driven by continued enhancements in its AI ad engine, as well as the full quarter impact of its web-based ad solution even coming off the seasonally high e-commerce quarter in Q4.
For Q2, management guided Advertising revenue of $1.195 to $1.215 billion, pointing to 69.5% YoY growth at midpoint, maintaining its hypergrowth phase.
Management is still looking to explore CTV as a future growth channel, following its recent push into e-commerce, while the upcoming launch of its AI-powered self-service campaign management platform is expected to be both a catalyst for revenue and margins.
Given the Apps business is being divested, AppLovin will be reporting headline growth in the 60% range that is aligned with its Ads business rather than a mix of both. Consensus revenue growth estimates are much lower and show a sharp deceleration, as these comps still take into account revenue from the Apps segment . Thus, growth rates such as 20% in Q3 do not reflect the true performance of the business.
Apps revenue declined (14.4%) YoY to $325 million. AppLovin announced that it entered a definitive agreement to sell the segment to Tripledot Studios for $400 million in cash ($150 million at closing and a $250 million promissory note) and a 20% stake in Tripledot’s equity. The transaction is expected to close in Q2. This will transition AppLovin into an advertising pure-play.
Margins Show Continued Strength
Though AppLovin’s top-line growth is quite impressive, margins are where it shines, with gross margin surpassing 80% and operating margin reaching a new high. This combination of strong revenue growth and strong margins is driving exceptional operating leverage with triple-digit earnings growth.
Per management on the call: “Total revenue soared 40% from the same period last year to $1.5 billion, and adjusted EBITDA increased a remarkable 83% to an impressive $1 billion, achieving a fantastic 68% adjusted EBITDA margin […] Shifting to the Advertising business, we generated $1.16 billion in revenue and $943 million in adjusted EBITDA, achieving an incredible 81% margin.”
Gross margin expanded 5 points sequentially and more than 9 points YoY to 81.7%. Notably, AppLovin cut its cost of revenue by nearly (9%) YoY, from $294.1 million to $272.2 million, while still driving 40% total revenue growth and 70% advertising growth.
Operating margin remained above 44% for a third straight quarter at 44.7%. To put in perspective how strong these margins are, AppLovin would have a Rule of 40 score of 85% based on Palantir’s definition of revenue growth + operating margin, while Palantir had a score of 83%.
Post-divestment, AppLovin’s operating margin will look much different, given that Advertising’s current operating margin is likely much closer to 70%. Management talked about the Rule of 150 on the earnings call, reflecting the new fundamental structure of the company, with ~70% revenue growth and 70% operating margins:
“I don't know of any other tech company with the financial profile that we have and scale growing the way we are. I think it's on a Rule of 150 or something. And what we're focused on when we talk about priorities is how's 2026 going to be? How's '27 going to be?”
Net margin in Q1 was 38.8%, up more than 16 points YoY. AppLovin’s business model sees a high percentage of its operating income flow through to the bottom line, driving tremendous EPS growth as margins expand.
Adjusted EBITDA margin was 68%, well ahead of guidance for 63% to 64%, as adjusted EBITDA surpassed $1 billion. Advertising adjusted EBITDA margin expanded 8 points YoY and 3 points QoQ to 81%, with adjusted EBITDA of $943 million coming in nearly 16% ahead of guidance. Apps adjusted EBITDA margin was 19%, flat QoQ but up 4 points YoY.
For Q2, management guided for adjusted EBITDA of $970-990 million for an 81% margin.
EPS Grows Triple-Digits in Q1
AppLovin reported massive 149% YoY growth in GAAP EPS to $1.67, outpacing revenue growth by more than 3x. Looking ahead, EPS estimates have been revised significantly higher since our latest update in February, AppLovin: Expanding from Gaming to E-Commerce (and Beyond)AppLovin: Expanding from Gaming to E-Commerce (and Beyond).
Q2 EPS is now seen growing 125% YoY to $2.00, before rising to $2.16 in Q3 and exiting the year at $2.46.
This compares to February’s estimates for 60% growth to $1.43 in Q2, $1.66 in Q3 and $1.78 in Q4. This is a significant >38% increase for Q2 and Q4’s EPS, as AppLovin will benefit from a much leaner business model as an ad-tech pure play, with operating margins set to expand post-divestment to nearly 70%, aided by prudent cost management – sales & marketing expenses were down nearly (20%) YoY, R&D was down nearly (21%), and data center costs rose by just $30 million YoY on a $480 million increase in revenue.
For FY25, analysts now estimate AppLovin will generate $7.80 in EPS, up 72.3% YoY, with FY26 EPS rising 42% to $11.80. This is more than a $3.50 increase for FY26 since February’s $8.27 estimate.
Cash Flows and Balance Sheet
AppLovin’s cash flows are exceptional, with operating and free cash flow margins expanding to new records in Q1. Per the opening remarks: “In the first quarter, we generated $826 million in free cash flow, up a staggering 113% year-over-year. Quarter-over-quarter, our free cash flow grew 19%, representing an impressive 82% flow-through from adjusted EBITDA to free cash flow.”
Operating cash flow rose 112% YoY to $831.7 million for a 56% margin, expanding from a 51.1% margin in Q4 and nearly 19 points higher than 37.1% in the year ago quarter.
Free cash flow rose 113% YoY to $825.7 million for a 55.6% margin, expanding from 50.6% in Q4 and 36.6% in the year ago quarter.
Cash and cash equivalents decreased to $551 million from $741.4 million in Q4, though the closing of the Apps sale should help restrengthen its cash position. AppLovin also repurchased and withheld 3.4 million shares in Q1 for a total cost of $1.2 billion, funded primarily via free cash flow and a temporary draw on its revolving credit facility, which was already repaid.
Debt totaled $3.71 billion, and debt-to-equity ratio has surged from 3.4x last quarter to nearly 6.5x now, as AppLovin is now more highly levered due to the decrease in cash and increase in total liabilities from $4.78 billion to $5.13 billion.
Analyst Estimates Do Not Represent the Full Picture
Analyst estimates show very low growth because these are taking the combined business of gaming and ads, and basing growth on this whereas organic growth will be much higher.
While Q2 will still have five weeks’ revenue impact from gaming, Q3 and Q4 will be AppLovin’s first two quarters post-divestment, with consensus revenue growth of 20-23%.
However, organic growth for Advertising was guided at just under 70% in Q2, and expected to be 65% YoY in Q3 based on the current estimate for $1.38 billion in revenue, which aligns with trends for 15% QoQ growth from Q2’s guide. Revenue is expected to decelerate to 52% in Q4, though this comes against a 73% growth comp.
Looking at just the Advertising business, full-year revenue growth is projected at ~63.2% YoY to $5.26 billion, based on current guidance and estimates for 2H. This would value AppLovin at a rather pricey 23x PS for 2025, and if revenue grows 30% YoY in 2026 to ~$6.83 billion, AppLovin would be valued at 17.7x forward PS.
If AppLovin can lever strong execution, expansions into web-advertising and further into e-commerce, and better optimizations to its AI ad engine to drive 50% YoY growth in 2026, revenue would project out to $7.89 billion, or ~15.3x forward PS
On the bottom line, AppLovin is currently operating near a 40% net margin with some quarterly fluctuations, and Advertising’s strong operating margin profile will likely pull net margins to the high-50% to 60% range. Looking out to 2026, AppLovin could generate earnings of $11.85 on the 30% growth forecast, assuming a 58% net margin with ~10 million share buybacks. This would value it slightly above 30x forward PE. Based on the 50% growth forecast and similar net margin and buyback assumptions, earnings would project to $13.70, or growth of >72% YoY based on current FY25 estimates, valuing AppLovin at 26.1x forward PE.
Growth Catalysts for 2025 and Beyond:
In terms of executing a successful pivot, Applovin’s management team does not get enough credit. Mobile games are a business that has plateaued (that’s putting it nicely – it’s actually a market that has tanked). Applovin aggressively acquired mobile games and leveraged their mobile IP portfolio to build a formidable database of 1.4 billion users. By building an ad-tech business and acquiring AI engineering talent, the company was early to AI with its AXON 2.0 platform. The pivot is one of the boldest I’ve seen in a 15-year career in tech; on par with Lisa Su’s move to overtake Intel.
“The ad engine AXON 2.0 offers a monumental advantage to AppLovin as the company is ahead in the race for AI-driven advertising. AppLovin is also an arbitrage advertising platform, which means they can quantify the impact of their reach for advertisers by returning back to the advertiser what was spent or more within 30 days. If an advertiser spends $10,000 (or multiples of this), AppLovin is able to return that or more to the advertiser. The company is also unique in that it offers performance marketing for brands and direct-to-consumer. The Trade Desk primarily works with agencies, whereas AppLovin is attracting smaller and medium sized businesses that rely on performance. Most importantly, AXON 2.0 is an AI-powered advertising engine that is continuously improving. Every quarter and every year, AXON becomes more effective by ingesting more data that improves the model through self-learning.”
Looking into the future, however, the management team cannot rest on their laurels as gaming eventually hits its limit in inventory. Although 1.4 billion daily active users is impressive, at about half of what Meta has with its family of apps at 3 billion users, one could argue that gamers are only worth so much to a marketer as the demographic is narrower and more limited.
Applovin’s next moves are the following:
Branch out to e-commerce — This plays nicely into the restrictions AppLovin has with a cookie window to convert within 24 hours. Meaning, if a user converts beyond 24 hours, it is hard for AppLovin to verify attribution. Therefore, the company is less appealing to an auto advertiser where the buying decision is quite long compared to a T-shirt company.
Web-based advertising – mobile games are an app-based business, hence the name AppLovin. The company came to market in the mobile era, yet the company is not capitalizing on websites at this time.
Self-service Platform – although this goes hand-in-hand with the web-based advertising catalyst, it’s important to look at this feature separately as the onboarding of advertisers can scale more quickly once this feature launches. Given AppLovin’s ideal advertisers convert within 24 hours for products that are less than $250, self-serve platform is the only way forward that makes sense.
Go Global – this is not on the near-term product road map yet is a lever AppLovin can pull when the timing is right. The company is focused on the United States market, which is by far the most lucrative.
E-commerce Apps:
According to the CEO’s response to short sellers in February, the initial launch of the e-commerce platform has seen 600 advertisers with an annual run rate of $1 billion. In terms of increasing TAM (which is also related to the information below in the web-based advertising section), the company stated they are “sub-0.1% penetration in the market,” signifying a long runway.
Where the TAM is a bit constrained is Applovin has 24 hours on the attribution side to convert and this tends to perform best with products priced under $250.
“On web, we built the product to be self-attributing, so our own attribution platform. And it's not high turnover products. I mean, like, most products in the world are not selling something greater than $250. Our product — our models can go deliver something that's a couple hundred dollars within a few minutes of the ad being seen, and it it's happening quite often. I mean, obviously, scaled at the $1 billion run rate that I mentioned.”
The breakdown of mobile versus web-based advertising in terms of ad spend is as follows.
Total Ad Spend in the United States: $309B per year
In-app advertising represents $165.9B per year
Mobile Web advertising represents $36.7B per year
Desktop advertising represents $106.B per year
Applovin is effectively increasing their TAM by 40% by adding web-based advertising. This will take time to scale yet given the strong start we’ve seen on the in-apps ad business, to increase TAM by 40% is certainly something that catches our attention.
In terms of how this plays out, Applovin’s goal is to see 10% of revenue from the web-based business once the self-service platform goes live:
“After we launched the self-serve model, that business could grow quite significantly and outpace that 10% metric that we provided previously. So, it's quite likely that it could represent a larger than 10% portion of the revenue this year.”
Once the self-serve platform goes live, Applovin’s ambition is to see a market penetration in web-based advertising on par with their penetration in mobile games. The following was stated regarding the roll-out happening toward the back half of the year: “And then, even more exciting, I touched on this in the talk script, we're finally going to be releasing our new dashboard to some select advertisers for feedback this quarter. That's a huge catalyzing effect. When we do go to a full self-service state, we're going to open up our platform from a very small amount of advertiser penetration to the entirety of the world being able to come on to our platform.”
The company also clarified that until the self-service platform launches, they will not see meaningful revenue in the web-based business, yet in the meantime, there is “a line out the door.”
“We've got a line out the door of customers that have been waiting to come on to the platform, and then we've onboarded, I think I said, in a blog, hundreds of advertisers, but our team is small. So, when I say we're not looking to push, we're looking to push over time, but we need to get the self-service tools into the market so that we can pair that with the team to automate a lot more of the processes.”
Short Reports:
The CEO responded to the short seller reports here and here. These are worth a read as the CEO makes the explanation quite simple in terms of how their pixel is not unique and is aligned with industry standards.
Conclusion:
There are no guarantees in tech investing. Stick around long enough and you will see a bulletproof company fall flat (pick any high-flying best-of-breed cloud company – Zoom, Snowflake, Datadog, MongoDB), while others surprise the market for a decade or longer (Meta, Google, etc.).
Applovin gushes margins, has many catalysts to continue its growth trajectory and perhaps most importantly, is an underdog of sorts to where the market often (mistakenly)- affords a better entry in time. I won’t get any originality points for writing an analysis on Applovin after an 800% run in the markets in eighteen months, yet perhaps I can help by saying that from what I can see today, this run is not over yet.
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Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.
AppLovin has done the unthinkable, which is to awaken a low-growth mobile gaming ads industry with an AI engine that is showing demonstrable results. The market is loving this stock as it has doubled its margins, more than doubled its cash flow and has a surging AI segment due to its AXON 2.0 AI advertising engine.
Our near-term plan is to trade this stock, while our medium-term plan is to build a longer-term position. Both require an active stance rather than guessing on the buys. However, we think App is setting up for a longer-term trajectory and our firm plans to participate.
Update on Investment Thesis:
There are a few key points to the investment thesis that I’d like to bookmark here for future reference.
APP has User Data from 1.4 Billion Mobile Users
The first point to the longer-term investment thesis is that AppLovin has data from 1.4 billion mobile gamers. We’ve seen the razor-razor blade model with hardware, to where a company will own the hardware market to get recurring software revenue. AppLovin has a different variation of this, which is they own mobile gaming apps and a supply-side platform to mix both first-party data and third-party data, which in turn, fuels their AI engine to help them capitalize on the broader mobile gaming market.
The word moat is overused in tech stocks, yet AppLovin has an enviable advantage in the era of AI. Off the top of my head, I cannot think of another company with this level of user data for advertising purposes that is not a Big Tech company and in the Mag 7.
Catalyst: E-commerce and more Web-based Advertising Categories in 2025
AppLovin’s success has been entirely based on gaming companies advertising to mobile gamers.
The company is planning to introduce new advertising segments to the 1.4 billion users they serve in 2025, which is likely to help the company grow into the foreseeable future. The catalyst for 2025 is expected to broaden to also include a self-service platform for all types of web-based advertising. According to management, the pilot for introducing e-commerce demand is going quite well: “E-commerce, on the other hand, is looking so strong that it's something that we think will be impactful to the business financially '25 and then for the long term.”
Product Differentiation:
The ad engine AXON 2.0 offers a monumental advantage to AppLovin as the company is ahead in the race for AI-driven advertising. Part of this is the user data from 1.4 billion users, which cannot be overemphasized, and it’s also due to the company owning both a supply-side platform MAX and demand-side platform, App Discovery. MAX gives AppLovin data on what different ad networks are willing to bid for ad placements, allowing AXON to competitively bid for ad placements to maximize return-on-ad-spend. After Apple announced its App Tracking Transparency (ATT) policy in 2021 which limited advertisers’ ability to track users across apps, AppLovin’s data became even more valuable as advertisers sought out AppDiscovery’s user acquisition algorithms to acquire high value users cost-effectively.
AppLovin is also an arbitrage advertising platform, which means they can quantify the impact of their reach for advertisers by returning back to the advertiser what was spent or more within 30 days. If an advertiser spends $10,000 (or multiples of this), AppLovin is able to return that or more to the advertiser. The company is also unique in that it offers performance marketing for brands and direct-to-consumer. The Trade Desk primarily works with agencies, whereas AppLovin is attracting smaller and medium sized businesses that rely on performance.
Most importantly, AXON 2.0 is an AI-powered advertising engine that is continuously improving. Every quarter and every year, AXON becomes more effective by ingesting more data that improves the model through self-learning. The management has been quite clear they believe these step-ups in model efficiency can help to maintain a 20% to 30% growth rate in gaming alone, and not accounting for the new web-based advertising catalysts expected in 2025.
“Last quarter, I shared our confidence in achieving 20% to 30% year-over-year growth for the foreseeable future. We continue to expect 4% to 5% quarterly growth through self-learning and market growth, with occasional step changes resulting from enhancements to our AXON algorithm.”
Strong Bottom Line and Cash Flows:
On top of the growth potential, APP has a strong bottom line and cash flows, which we review in more detail below. The adjusted EBITDA margin is at 60% and the GAAP operating margin has doubled YoY from 21.6% to 44.6%. The free cash flow margin of 45.5% has also doubled from 22.4%. Notably, the company carries $3.5 billion in debt, yet at this cash flow margin is not a concern.
Q3 Earnings: Software/Advertising Segment up 16% QoQ
In addition to reporting growth on the bottom line, AppLovin’s primary AI segment inflected 17% QoQ to $835 million, up from $711 million last quarter. The software/advertising platform has a high adjusted EBITDA of 78%, easily making this one of the more profitable hypergrowth companies the market has ever seen. This is not exactly a secret, as AppLovin is up over 600% YTD but what is important to look at it, is whether AppLovin can continue this winning streak.
Given commentary on the most recent earnings call, we think analyst estimates are too low for next year. There’s also a valuation case being made by institutional analysts following the last earnings report that APP should be valued by EV/EBITDA, which creates room in the valuation that traditional top line and bottom-line metrics are not showing.
Revenue
APP reported $1.2 billion in revenue in Q3, beating estimates by nearly 6% after missing slightly in Q2. Revenue growth continued to decelerate from its peak of 47.9% YoY in Q1, with Q3 revenue growth of 38.6% YoY.
For Q4, APP guided for revenue between $1.24 to $1.26 billion, or 31.1% YoY growth at the midpoint, pointing to growth decelerating once more as comps get tougher. Moving through the first half of 2025, growth is expected to hover in the low-20% range, up from the mid-teens before the report.
The reason the market is ignoring the deceleration is that the key AI segment is growing QoQ and re-accelerated in the most recent quarter. This hints at a re-acceleration potentially in the top line in the coming quarters.
For FY24, APP is expected to see revenue rise 39.9% YoY to $4.59 billion, before slowing to 18.9% YoY growth to $5.46 billion in FY25.
Our firm is tracking the 2025 catalysts of e-commerce and other web-based advertising segments as offering strong potential that analyst estimates are too low, especially when coupled with management comments that gaming alone will drive 20% to 30% revenue growth into the foreseeable future.
Margins:
APP’s margin strengths have been an underlying driver of the surge in the stock price, with increased operating leverage driving a strong expansion on the bottom line.
Gross margin in Q3 was 77.5%, improving from 73.8% in Q2 and 69.3% a year ago.
Operating margin in Q3 was 44.6%, a significant improvement from 36.2% in Q2 and more than double the 21.6% operating margin in the year ago quarter. This degree of operating leverage is ridiculous! Especially while seeing revenue growth rates above 30% — essentially, APP has been able to drive this revenue growth with barely any change to its operating expenses, even as it continues to improves its AXON AI engine. Wow.
Net margin in Q3 was 36.3%, improving from 28.7% in Q2 and nearly triple the 12.6% margin in the year ago quarter, due to that substantial operating leverage. Again, wow.
Adjusted EBITDA margin was 60% in Q3, up from 56% in Q2 and 49% in the year ago quarter. For Q4, APP guided adjusted EBITDA margin to remain flat QoQ at 60%.
EPS
Given the dramatic improvement in operating and net margins, APP’s net income and EPS has followed suit, rising over 300% YoY in Q3.
Q3’s GAAP EPS of $1.25 increased 317% YoY, and easily beat estimates for $0.93. This accelerated slightly from Q2’s 304% YoY growth. Looking ahead, GAAP EPS is expected to remain flat QoQ in Q4 at $1.25, before advancing slightly in the first half of 2025 to the mid-$1.30 range.
Through Q3, APP’s GAAP EPS has risen 462% YoY to $2.81. Using Q4’s guide, FY24’s EPS would be estimated at $4.06, or YoY growth of 314%.
For FY25 and FY26, EPS growth is expected to remain robust even after this surge, with growth projected currently at >30% in both years: analysts estimate 37% YoY growth to $5.57 in FY25, and 31% YoY growth to $7.26 in FY26.
Cash and Balance Sheet:
Operating cash flow and free cash flow growth has also been remarkably strong, with margins quickly approaching 50%.
Operating cash flow was $550.7 million in Q3, increasing 177% YoY. OCF margin was 46%, improving from 42.1% in Q2 and doubling from 23% in the year ago quarter.
Free cash flow was $545.1 million in Q3, rising 182% YoY. FCF margin was 45.5%, improving from 41.2% last quarter and 22.4% in the year ago quarter.
Cash and equivalents totaled $567.6 million.
Debt totaled $3.51 billion.
What’s of note here is that APP carries a high debt load, with the first $1.5 billion tranche of senior secured term loans due in 2028, with the remaining $2.1 billion senior secured loan due in 2030.
Key Segments and Metrics
APP’s Software segment (soon to be reclassified as Advertising) and its AXON AI engine has been the primary growth driver over the course of the past six quarters, with Software Platform revenue rising from 50% of total revenue at the beginning of 2023 to 70% in Q3 2024.
Software’s growth remained strong in Q3, with revenue rising 66% YoY to $835 million. This marked the fifth straight quarter of YoY growth >60% for the segment, with growth also reaccelerating sequentially, with QoQ of 17.4% in Q3 versus 4.8% in Q2.
Software’s adjusted EBITDA increased 79% YoY to $653 million, outpacing revenue growth as a result of increased operating leverage. Adjusted EBITDA margin in the segment was 78%, expanding from 73% last quarter and 72% in the year ago quarter.
On the other hand, App revenue was relatively unchanged, rising just 1% YoY to $363 million, and decelerating from 7% growth in the prior quarter. App’s revenue has not yet rebounded after a trough in early 2023.
App’s adjusted EBITDA rose nearly 24% YoY to $68 million, or a 19% margin. This contracted slightly from 22% in Q2 but had improved from 15% in the year ago quarter; however, segment performance remains slightly challenged as APP continues to optimize the segment’s cost structure.
Monthly Active Payers, Average Revenue:
APP’s monthly active payers were 1.6 million, flat sequentially but down from 1.8 million last year. On the other hand, average revenue per monthly active payer (ARPMAP) was $52, flat sequentially but improving from $46 last year.
Earnings Call Discussion:
Bull Case: 20% to 30%+ Growth into Next Year
As stated, the comments that gaming alone can drive 20% to 30% growth, in addition to the important catalyst of expanding into e-commerce and web-based advertising is why AppLovin can continue on a strong growth trajectory. Analysts currently have FY2025 estimates at 19.6%:
Here is the tone from the earnings call:
“While we remain confident in 20% to 30% growth for mobile gaming advertisers alone, we're also exploring new areas, as shown by our recent e-commerce pilot. Early data has exceeded our expectations, with the advertisers in the pilot seeing substantial returns, often surpassing those from other media channels, and in many cases, experiencing nearly a 100% incrementality from our traffic.”
The Scale + AI Engine is Why AppLovin is Just Getting Started
AppLovin’s 1.4 billion users is key to why this company’s trajectory may just be getting started. The company has stated even if they release the code and algorithm for AXON 2.0, competitors cannot mimic what they’ve built due to the data they own.
Here is what was stated on the call:
“[Our customers] care about optimization and automated advertising to a revenue goal. And that's really like what our system is predicated on is that. We take all the risk on the media side. We have to deliver really compelling performance on the technology side. And I guess, like what's most exciting for me on what we've built and where we are in terms of, like you said, market cap and scale as a business today is we're on top of 1.4 billion daily actives. So it's really easy to forget the scale of the audience reach that we have on our platform. We've got the largest mediation solution in the sector, and our teams built maybe the most innovative advertising technology that the world has yet seen.”
Valuation:
EV/EBITDA Valuation Shows Room
No doubt, AppLovin is richly valued on the top line and bottom line. The top line is trading at 21X Fwd PS compared to ad-tech peer The Trade Desk at 26X Fwd PS. On the bottom line, AppLovin is trading at 52 Fwd PE Ratio compared to a Fwd PE Ratio of 79 for TTD.
However, where there is more room is seen in the EV/EBITDA valuation, which institutional analysts are making the case should be the correct valuation. Per current data, there is nearly 100% upside to APP on this valuation.
Here is what analysts are saying: “(11/07) Macquarie raised the firm's price target on AppLovin to $270 from $150 and keeps an Outperform rating on the shares after the company's beat and raise Q3 report. The firm, which raised its 2024 adjusted EBITDA estimate to $2.6B from $2.4B and its 2025 estimate to $3.2B from $2.9B, notes that it shifted its valuation method to "straight EV/EBITDA, given the predominance of the Software Platform now."
Source: YCharts
Conclusion:
Our firm is preparing to participate in AppLovin in two ways — first, a quicker momentum play to see if we can capture any remaining upside presented in the EV/EBITDA valuation that institutional analysts are favoring for this stock. Knox’s technical analysis is showing a potential move, and this is supported by fundamentals. However, for our longer-term position, we will look to close the momentum trade and participate again come 2025. Stay tuned!
Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.
AppLovin has done the unthinkable, which is to awaken a low-growth mobile gaming ads industry with an AI engine that is showing demonstrable results. The market is loving this stock as it has doubled its margins, more than doubled its cash flow and has a surging AI segment due to its AXON 2.0 AI advertising engine.
Our near-term plan is to trade this stock, while our medium-term plan is to build a longer-term position. Both require an active stance rather than guessing on the buys. However, we think App is setting up for a longer-term trajectory and our firm plans to participate.
Update on Investment Thesis:
There are a few key points to the investment thesis that I’d like to bookmark here for future reference.
APP has User Data from 1.4 Billion Mobile Users
The first point to the longer-term investment thesis is that AppLovin has data from 1.4 billion mobile gamers. We’ve seen the razor-razor blade model with hardware, to where a company will own the hardware market to get recurring software revenue. AppLovin has a different variation of this, which is they own mobile gaming apps and a supply-side platform to mix both first-party data and third-party data, which in turn, fuels their AI engine to help them capitalize on the broader mobile gaming market.
The word moat is overused in tech stocks, yet AppLovin has an enviable advantage in the era of AI. Off the top of my head, I cannot think of another company with this level of user data for advertising purposes that is not a Big Tech company and in the Mag 7.
Catalyst: E-commerce and more Web-based Advertising Categories in 2025
AppLovin’s success has been entirely based on gaming companies advertising to mobile gamers.
The company is planning to introduce new advertising segments to the 1.4 billion users they serve in 2025, which is likely to help the company grow into the foreseeable future. The catalyst for 2025 is expected to broaden to also include a self-service platform for all types of web-based advertising. According to management, the pilot for introducing e-commerce demand is going quite well: “E-commerce, on the other hand, is looking so strong that it's something that we think will be impactful to the business financially '25 and then for the long term.”
Product Differentiation:
The ad engine AXON 2.0 offers a monumental advantage to AppLovin as the company is ahead in the race for AI-driven advertising. Part of this is the user data from 1.4 billion users, which cannot be overemphasized, and it’s also due to the company owning both a supply-side platform MAX and demand-side platform, App Discovery. MAX gives AppLovin data on what different ad networks are willing to bid for ad placements, allowing AXON to competitively bid for ad placements to maximize return-on-ad-spend. After Apple announced its App Tracking Transparency (ATT) policy in 2021 which limited advertisers’ ability to track users across apps, AppLovin’s data became even more valuable as advertisers sought out AppDiscovery’s user acquisition algorithms to acquire high value users cost-effectively.
AppLovin is also an arbitrage advertising platform, which means they can quantify the impact of their reach for advertisers by returning back to the advertiser what was spent or more within 30 days. If an advertiser spends $10,000 (or multiples of this), AppLovin is able to return that or more to the advertiser. The company is also unique in that it offers performance marketing for brands and direct-to-consumer. The Trade Desk primarily works with agencies, whereas AppLovin is attracting smaller and medium sized businesses that rely on performance.
Most importantly, AXON 2.0 is an AI-powered advertising engine that is continuously improving. Every quarter and every year, AXON becomes more effective by ingesting more data that improves the model through self-learning. The management has been quite clear they believe these step-ups in model efficiency can help to maintain a 20% to 30% growth rate in gaming alone, and not accounting for the new web-based advertising catalysts expected in 2025.
“Last quarter, I shared our confidence in achieving 20% to 30% year-over-year growth for the foreseeable future. We continue to expect 4% to 5% quarterly growth through self-learning and market growth, with occasional step changes resulting from enhancements to our AXON algorithm.”
Strong Bottom Line and Cash Flows:
On top of the growth potential, APP has a strong bottom line and cash flows, which we review in more detail below. The adjusted EBITDA margin is at 60% and the GAAP operating margin has doubled YoY from 21.6% to 44.6%. The free cash flow margin of 45.5% has also doubled from 22.4%. Notably, the company carries $3.5 billion in debt, yet at this cash flow margin is not a concern.
Q3 Earnings: Software/Advertising Segment up 16% QoQ
In addition to reporting growth on the bottom line, AppLovin’s primary AI segment inflected 17% QoQ to $835 million, up from $711 million last quarter. The software/advertising platform has a high adjusted EBITDA of 78%, easily making this one of the more profitable hypergrowth companies the market has ever seen. This is not exactly a secret, as AppLovin is up over 600% YTD but what is important to look at it, is whether AppLovin can continue this winning streak.
Given commentary on the most recent earnings call, we think analyst estimates are too low for next year. There’s also a valuation case being made by institutional analysts following the last earnings report that APP should be valued by EV/EBITDA, which creates room in the valuation that traditional top line and bottom-line metrics are not showing.
Revenue
APP reported $1.2 billion in revenue in Q3, beating estimates by nearly 6% after missing slightly in Q2. Revenue growth continued to decelerate from its peak of 47.9% YoY in Q1, with Q3 revenue growth of 38.6% YoY.
For Q4, APP guided for revenue between $1.24 to $1.26 billion, or 31.1% YoY growth at the midpoint, pointing to growth decelerating once more as comps get tougher. Moving through the first half of 2025, growth is expected to hover in the low-20% range, up from the mid-teens before the report.
The reason the market is ignoring the deceleration is that the key AI segment is growing QoQ and re-accelerated in the most recent quarter. This hints at a re-acceleration potentially in the top line in the coming quarters.
For FY24, APP is expected to see revenue rise 39.9% YoY to $4.59 billion, before slowing to 18.9% YoY growth to $5.46 billion in FY25.
Our firm is tracking the 2025 catalysts of e-commerce and other web-based advertising segments as offering strong potential that analyst estimates are too low, especially when coupled with management comments that gaming alone will drive 20% to 30% revenue growth into the foreseeable future.
Margins:
APP’s margin strengths have been an underlying driver of the surge in the stock price, with increased operating leverage driving a strong expansion on the bottom line.
Gross margin in Q3 was 77.5%, improving from 73.8% in Q2 and 69.3% a year ago.
Operating margin in Q3 was 44.6%, a significant improvement from 36.2% in Q2 and more than double the 21.6% operating margin in the year ago quarter. This degree of operating leverage is ridiculous! Especially while seeing revenue growth rates above 30% — essentially, APP has been able to drive this revenue growth with barely any change to its operating expenses, even as it continues to improves its AXON AI engine. Wow.
Net margin in Q3 was 36.3%, improving from 28.7% in Q2 and nearly triple the 12.6% margin in the year ago quarter, due to that substantial operating leverage. Again, wow.
Adjusted EBITDA margin was 60% in Q3, up from 56% in Q2 and 49% in the year ago quarter. For Q4, APP guided adjusted EBITDA margin to remain flat QoQ at 60%.
EPS
Given the dramatic improvement in operating and net margins, APP’s net income and EPS has followed suit, rising over 300% YoY in Q3.
Q3’s GAAP EPS of $1.25 increased 317% YoY, and easily beat estimates for $0.93. This accelerated slightly from Q2’s 304% YoY growth. Looking ahead, GAAP EPS is expected to remain flat QoQ in Q4 at $1.25, before advancing slightly in the first half of 2025 to the mid-$1.30 range.
Through Q3, APP’s GAAP EPS has risen 462% YoY to $2.81. Using Q4’s guide, FY24’s EPS would be estimated at $4.06, or YoY growth of 314%.
For FY25 and FY26, EPS growth is expected to remain robust even after this surge, with growth projected currently at >30% in both years: analysts estimate 37% YoY growth to $5.57 in FY25, and 31% YoY growth to $7.26 in FY26.
Cash and Balance Sheet:
Operating cash flow and free cash flow growth has also been remarkably strong, with margins quickly approaching 50%.
Operating cash flow was $550.7 million in Q3, increasing 177% YoY. OCF margin was 46%, improving from 42.1% in Q2 and doubling from 23% in the year ago quarter.
Free cash flow was $545.1 million in Q3, rising 182% YoY. FCF margin was 45.5%, improving from 41.2% last quarter and 22.4% in the year ago quarter.
Cash and equivalents totaled $567.6 million.
Debt totaled $3.51 billion.
What’s of note here is that APP carries a high debt load, with the first $1.5 billion tranche of senior secured term loans due in 2028, with the remaining $2.1 billion senior secured loan due in 2030.
Key Segments and Metrics
APP’s Software segment (soon to be reclassified as Advertising) and its AXON AI engine has been the primary growth driver over the course of the past six quarters, with Software Platform revenue rising from 50% of total revenue at the beginning of 2023 to 70% in Q3 2024.
Software’s growth remained strong in Q3, with revenue rising 66% YoY to $835 million. This marked the fifth straight quarter of YoY growth >60% for the segment, with growth also reaccelerating sequentially, with QoQ of 17.4% in Q3 versus 4.8% in Q2.
Software’s adjusted EBITDA increased 79% YoY to $653 million, outpacing revenue growth as a result of increased operating leverage. Adjusted EBITDA margin in the segment was 78%, expanding from 73% last quarter and 72% in the year ago quarter.
On the other hand, App revenue was relatively unchanged, rising just 1% YoY to $363 million, and decelerating from 7% growth in the prior quarter. App’s revenue has not yet rebounded after a trough in early 2023.
App’s adjusted EBITDA rose nearly 24% YoY to $68 million, or a 19% margin. This contracted slightly from 22% in Q2 but had improved from 15% in the year ago quarter; however, segment performance remains slightly challenged as APP continues to optimize the segment’s cost structure.
Monthly Active Payers, Average Revenue:
APP’s monthly active payers were 1.6 million, flat sequentially but down from 1.8 million last year. On the other hand, average revenue per monthly active payer (ARPMAP) was $52, flat sequentially but improving from $46 last year.
Earnings Call Discussion:
Bull Case: 20% to 30%+ Growth into Next Year
As stated, the comments that gaming alone can drive 20% to 30% growth, in addition to the important catalyst of expanding into e-commerce and web-based advertising is why AppLovin can continue on a strong growth trajectory. Analysts currently have FY2025 estimates at 19.6%:
Here is the tone from the earnings call:
“While we remain confident in 20% to 30% growth for mobile gaming advertisers alone, we're also exploring new areas, as shown by our recent e-commerce pilot. Early data has exceeded our expectations, with the advertisers in the pilot seeing substantial returns, often surpassing those from other media channels, and in many cases, experiencing nearly a 100% incrementality from our traffic.”
The Scale + AI Engine is Why AppLovin is Just Getting Started
AppLovin’s 1.4 billion users is key to why this company’s trajectory may just be getting started. The company has stated even if they release the code and algorithm for AXON 2.0, competitors cannot mimic what they’ve built due to the data they own.
Here is what was stated on the call:
“[Our customers] care about optimization and automated advertising to a revenue goal. And that's really like what our system is predicated on is that. We take all the risk on the media side. We have to deliver really compelling performance on the technology side. And I guess, like what's most exciting for me on what we've built and where we are in terms of, like you said, market cap and scale as a business today is we're on top of 1.4 billion daily actives. So it's really easy to forget the scale of the audience reach that we have on our platform. We've got the largest mediation solution in the sector, and our teams built maybe the most innovative advertising technology that the world has yet seen.”
Valuation:
EV/EBITDA Valuation Shows Room
No doubt, AppLovin is richly valued on the top line and bottom line. The top line is trading at 21X Fwd PS compared to ad-tech peer The Trade Desk at 26X Fwd PS. On the bottom line, AppLovin is trading at 52 Fwd PE Ratio compared to a Fwd PE Ratio of 79 for TTD.
However, where there is more room is seen in the EV/EBITDA valuation, which institutional analysts are making the case should be the correct valuation. Per current data, there is nearly 100% upside to APP on this valuation.
Here is what analysts are saying: “(11/07) Macquarie raised the firm's price target on AppLovin to $270 from $150 and keeps an Outperform rating on the shares after the company's beat and raise Q3 report. The firm, which raised its 2024 adjusted EBITDA estimate to $2.6B from $2.4B and its 2025 estimate to $3.2B from $2.9B, notes that it shifted its valuation method to "straight EV/EBITDA, given the predominance of the Software Platform now."
Source: YCharts
Conclusion:
Our firm is preparing to participate in AppLovin in two ways — first, a quicker momentum play to see if we can capture any remaining upside presented in the EV/EBITDA valuation that institutional analysts are favoring for this stock. Knox’s technical analysis is showing a potential move, and this is supported by fundamentals. However, for our longer-term position, we will look to close the momentum trade and participate again come 2025. Stay tuned!
AppLovin is an ad-tech company that saw a strong acceleration in growth and margins this past year driven by AXON 2.0, an AI-powered advertising engine that efficiently acquires users for mobile game publishers.
At IPO in 2021, AppLovin made most of its revenue from its Apps segment, a portfolio of free-to-play mobile games. This was historically seen as a cost center as AppLovin could gain a valuable trove of first-party data to feed into improving its user acquisition algorithms. However, management has since made an important pivot to grow its Software Platform segment, composed of MAX, its supply side platform (SSP) and AppDiscovery, its demand side platform (DSP).
This was because as MAX grew, AppLovin had a better source of data and gradually restructured its Apps business to focus on maximizing profitability. This transition made sense given the drastically different margin profile of the two segments, with a 15% long-term adjusted EBITDA margin profile for Apps compared to the over 73% adjusted EBITDA margin of the Software Platform segment.
After Apple announced its App Tracking Transparency (ATT) policy in 2021 which limited advertisers’ ability to track users across apps, AppLovin’s data became even more valuable as advertisers sought out AppDiscovery’s user acquisition algorithms to acquire high value users cost-effectively.
Furthermore, AppLovin’s CEO has repeatedly made clear that its AI recommendation engine has applications far beyond mobile gaming. It acquired Wurl, a Connected TV (CTV) SSP, in 2022 as an initial foray into CTV.
With a mobile ad network significantly larger than others in the market, AppLovin’s end-to-end advertising stack gives it a unique data advantage which enables superior algorithms that deliver better ad conversion rates, leading to higher return on ad spend to advertisers and higher spending, which attracts more inventory, leading to even better algorithms and so on.
Provided we can get the stock at a reasonable valuation, due to a durable data advantage, we believe AppLovin will be well-positioned to outperform.
Business Overview
AppLovin’s business consists of two segments: a fast-growing, high margin Software Platform and a slower-growing, lower margin (but still profitable) Apps segment consisting of its portfolio free-to-play mobile games. Our focus is on the software segment as it continues to drive top-line growth, powered by its AXON 2.0 AI-engine which we will discuss below.
Software Platform Segment (66% of Revenue, 87% of Adjusted EBITDA in Q2’24)
AppLovin’s software platform enables mobile gaming publishers to monetize their ad inventory, acquire new users more cost-effectively, and optimize their ad spend through three solutions:
MAX is AppLovin’s mediation platform, a type of supply-side platform (SSP) which is used by publishers to maximize the value they’re able to sell advertising inventory for by running real-time auctions across a wide range of ad networks. The service is free to use for publishers, with MAX charging advertisers a fee of 5% of header bidding. AppLovin acquired MoPub from Twitter for $1.05 billion in cash in 2022, turning MAX into by far the largest mediation platform for mobile gaming today.
AppLovin’s largest competitor in this segment is Unity Software, which has its own “Grow” segment where it offers tools to monetize and acquire mobile gaming users. It completed a $4.4 billion merger with ironSource in 2022, which was intended to remedy Unity’s own troubled mediation software as ironSource had its own leading mediation platform and tools for creating and managing ad campaigns.
AppLovin actually offered to acquire Unity at $58.85 per share in August 2022 before its planned merger with ironSource. Unity turned down the offer and continued with the merger, which has not proven successful. In January 2024, Unity cut 25% of the combined company’s employees and the ironSource founders left shortly afterwards. In its recent Q2’24 earnings report, Unity’s Grow solutions revenue was $296 million, down 9% YoY and up 1% QoQ after two quarters of QoQ declines. This was a far cry from AppLovin’s own Q2’24 result of 75% YoY and 4.9% QoQ growth for its software segment to $711 million.
AppDiscovery, the majority of the software platform’s revenue, is AppLovin’s demand side platform (DSP) that leverages machine learning to identify high value users that are mostly likely to download and engage with an app and help game publishers to earn the highest return on ad spend. Advertisers pay AppLovin, typically on a cost-per-install performance-basis, who passes on the spend to publishers on a cost per impression model.
Adjust is a SaaS solution that provides analytics to optimize ad performance. It generates revenue mainly through an annual software subscription fee.
Finally, Wurl, a company that AppLovin acquired in 2022, essentially does what APP does but for the connected TV industry. It helps video content creators distribute, monetize, and acquire new users. Wurl generates revenue primarily from content companies which typically pay Wurl on a usage-basis.
Apps Segment (34% of Revenue, 13% of Adjusted EBITDA in Q2’24)
AppLovin’s other main business segment is Apps. AppLovin owns or partners with ten studios worldwide which have published over 200 free-to-play mobile games – mostly in casual and card game genres which are more predictable and target a wider audience.
These apps are monetized through in-app purchases by users (68% of apps revenue in H1’24) as well as advertising (32% of apps revenue in H1’24), with in-app advertising growing slightly more at 8.8% YoY compared to in-app purchases growing at 5.1% YoY.
This segment has become a secondary focus for AppLovin, and they’ve stated their openness to divestitures though they are waiting for the market to improve. The number of studios they partner with has also dropped from 14 in Q2’21 to ten today.
AppLovin competes against other publishers like Activision, Tencent, and Zynga. Notably, many of these companies are also customers for the software segment, with the CEO noting on the Q2’24 call:
“At this point, our platform is so successful in mobile gaming, it's very, very hard for any publisher to look the other way. And so we've gotten a lot more adoption across even those publishers. There isn't really a customer that I know of in mobile gaming that does not find success — scalable success on our platform at this point today.”There isn't really a customer that I know of in mobile gaming that does not find success — scalable success on our platform at this point today.”
Acceleration from AI-Powered Platform
AppLovin’s revenue growth saw a dramatic acceleration over the last four quarters, improving from -3.36% YoY growth in Q2’23 to 44% YoY growth in Q2’24, driven by the Software Platform which rose from 54% of revenue to 64% over the same period.
Management accredited a large part of this acceleration to the launch of AXON 2.0 in early 2023, with growth from this pivot first showing up in the numbers in Q2’23. AXON leverages data from its MAX mediation software to train AXON, an AI-powered advertising engine that drives AppLovin’s AppDiscovery product.
MAX gives AppLovin data on what different ad networks are willing to bid for ad placements, allowing AXON to competitively bid for ad placements to maximize return-on-ad-spend.
Management effectively encapsulates why the combination of their algorithm and their data gives them a first mover advantage in the Q1’24 call:
“We built cutting-edge AI technologies. It's a multi-year effort for anyone to be able to look at that and go be able to replicate that. And I don't even think it's conceivable that it's something that can be replicated. So, by the time there's anyone that's actually going to be able to compete against our technology, we will be years advanced from where we are today because we're continuing to evolve the technology.multi-year effort for anyone to be able to look at that and go be able to replicate that. And I don't even think it's conceivable that it's something that can be replicated. So, by the time there's anyone that's actually going to be able to compete against our technology, we will be years advanced from where we are today because we're continuing to evolve the technology.
Second piece is, we can open-source our code tomorrow. We can hand-out the code to competition. It still won't matter because these technologies need data that they're achieving in the marketplace to be able to drive themselves. So, if you think about like AI models, like what makes an AI model impactful? Well, they're utilized and that data feedback that they get from human behavior retrains the model and allows the model to continue to improve itself.”We can hand-out the code to competition. It still won't matter because these technologies need data that they're achieving in the marketplace to be able to drive themselves. So, if you think about like AI models, like what makes an AI model impactful? Well, they're utilized and that data feedback that they get from human behavior retrains the model and allows the model to continue to improve itself.”
Given AppLovin’s reliance on user tracking to feed its algorithms and how its apps business was impacted by IDFA changes in the past, one of the largest risks are privacy initiatives by Apple and Alphabet to limit user tracking. The CEO responded to this by noting on the Q3’23 call:
“Look, we’ve dealt with privacy changes probably since 2014. Every time there’s a change on platform or with regulators, you’ve changed something in your stock, but we’re a nimble company, we’ve rewritten our core technology multiple times over the years, and we are always able to adapt and perform in the face of any of those kinds of changes.”
Management has also hinted at possible applications outside of gaming, with AppLovin launching its first web advertising campaigns for e-commerce in Q2’24 and noting its early success, with material contributions expected as soon as 2025.
“In the quarter, Q2, we launched pilot of our web advertising program…This allows an e-commerce shop that has a website to buy on our in-app inventory, the billion-plus daily active users we see in mobile gaming, a video advertisement routes that user to their shop and purchase that user in the same way that mobile game companies like purchasing users on our platform.
…Results are looking really promising, materially better than what we would have expected this early in our progression in trying to get into web advertising. So this product, we think is something that we're going to invest heavily behind, start scaling out and hopefully will show a material impact in '25 and beyond. And it is not limited to just e-commerce. It opens the door to advertising for any website of any type that wants to drive transactions that are measurable on a performance basis on our platform.”hopefully will show a material impact in '25 and beyond. And it is not limited to just e-commerce. It opens the door to advertising for any website of any type that wants to drive transactions that are measurable on a performance basis on our platform.”
In the Q2’24 call, management expanded on how improving the algorithm both as a function of more data and model improvements can lead to 20 to 30% long-term software segment growth, compared to industry growth in the low-single-digits, without accounting for expansion into new verticals.
“You've got a mobile gaming category. It's got a few percentage points of growth a year now. So let's call that low-single digits. You've got a business that as these models continue to improve from gathering more data, we think that's an extra 3%, 4% a quarter as well. So, that sort of gets you to the low end.as these models continue to improve from gathering more data, we think that's an extra 3%, 4% a quarter as well. So, that sort of gets you to the low end.
And then we've got a team that's constantly working on improving the models and any improvement that's actually develop or driven enhancement to the models that makes them more accurate, then steps you up into the higher-end of that range. And so we've got a lot of confidence in the growth goal we put out there just on a baseline basis the current business.”any improvement that's actually develop or driven enhancement to the models that makes them more accurate, then steps you up into the higher-end of that range. And so we've got a lot of confidence in the growth goal we put out there just on a baseline basis the current business.”
AppLovin Q2 Financials
AppLovin reported a decent Q2’24, with a bottom-line beat and top-line that was in-line with estimates. Guidance also came ahead of estimates on revenue and adjusted EBITDA.
The software segment again was the driver of growth, reporting 75.1% YoY growth, compared to the overall business at 44% YoY growth, but QoQ growth slowed noticeably from recent quarters.
The highlight of the report was the strong margin improvements, driven by both the continued mix shift towards higher margin software revenue as well as outperformance in apps segment margins due to a reduction in costs.
AppLovin’s Q3’24 guidance also continues to assume strong growth; if the apps segment grows at the same rate YoY as Q2, then the guidance implies a slight re-acceleration in the Software Platform segment from 44% YoY growth to 46.6% YoY growth.
Revenue and EPS
Q2 revenue grew by 44% YoY to $1.08 billion. It was in-line with expectations
AppLovin guided for Q3 revenue of $1.125 billion at the midpoint, representing YoY growth of 30.2%, beating $1.10 billion consensus by 2.2% at the midpoint.
Management remains confident that they can grow their software segment at a 20% to 30% CAGR for the long term after first mentioning the goal last quarter.
Margins
Margins remained strong with gross, operating, adjusted EBITDA, and net margins all expanding YoY and QoQ, driven by a mix shift towards higher Software Platform revenue and cost discipline. Management expects these margin improvements to continue, guiding for QoQ expansion in adjusted EBITDA margin.
Gross profit rose 62.2% YoY to $797.6 million. Gross margin was 73.8%, up from 65.5% last year and 72.2% last quarter.
Operating income rose 197.2% YoY to $391 million. Operating margin was 36.2%, up from 17.5% last year and from 32.1% last quarter.
Net income rose 285.7% YoY to $310 million. Net margin came in at 28.7%, up from 10.7% last year and 22.3% last quarter. GAAP EPS of $0.89 beat estimates by $0.16, representing YoY growth of 304.5%.
Quarterly EPS growth is expected to level off with GAAP EPS of $1.01 expected for Q3’24 and the same for Q2’25.
Adjusted EBITDA rose 80% YoY to $601 million, beating guidance by 7.3% at the midpoint. Adjusted EBITDA margin was 55.7%, beating guidance of 52.5% at the midpoint and up from 44% last year and 52% last quarter.
Management guided for further improvement in adjusted EBITDA margins next quarter, targeting $640 million at the midpoint, representing a 57% margin and beating consensus of $587 million by 9%.
Cash and Debt
Operating cash flow was $454.5 million, up 97.8% YoY. Operating cash flow margin was 42.1%, up from 30.6% last year and 37.1% last quarter.
Free cash flow was $445.5 million, up 101.9% YoY. Free cash flow margin was 41.2%, up from 29.4% last year and 36.6% last quarter. For comparison, analysts expect competitor Unity Software to only earn a 12.7% FCF margin in 2024, compared to 8.2% in 2023. Digital Turbine, another ad tech company that offers user acquisition and monetization services is expected to earn just 4.3% FCF margins for FY’25 (ending March 2025) compared to 0.8% in FY’24. Even The Trade Desk, the leading DSP, is expected to earn 27% FCF margins in 2024, compared to 28% in 2023.
For Q2 2024, the company has $3.52 billion in total debt, up slightly from the $3.50 billion in total debt reported in the previous quarter and $3.2 billion last year. AppLovin reported $460.45 million in cash and marketable securities, down from $876.2 million last year but up from $436.3 million last quarter.
AppLovin repurchased 4.2 million shares for $356 million in the quarter. They currently have $500 million remaining in its $1.25 billion repurchase authorization. AppLovin has taken advantage of the drawdown in its share price to repurchase shares, reducing its share count by 10.6% since the end of 2022.
Revenue Segments
AppLovin’s Software Platform revenue grew 75% YoY and 4.9% QoQ to $711 million, marking the sixth consecutive quarter of QoQ acceleration driven by AXON 2.0, though noticeably by a smaller percentage than previous quarters.
AppLovin’s Software Platform adjusted EBITDA grew by 90.7% YoY and 5.8% QoQ to $520.5 million. Software EBITDA margins were 73.2%, up from 72.6% last quarter and 67.2% last year.
AppLovin’s Apps segment revenue grew 7.2% YoY to $369.1 million, marking the second consecutive quarter of YoY growth.
AppLovin’s Apps segment adjusted EBITDA grew 33.1% YoY and 42.2% QoQ. Apps adjusted EBITDA margins were 21.9%, a significant improvement from 18% last year and 15% last quarter. This quarter was a standout due to a readjustment in user acquisition return goals, resulting in a 11% QoQ decrease in app segment costs. Management expects Apps EBITDA margin to normalize at 15% over the long-term.
Key Metrics
AppLovin logged 1.6 million Monthly Active Payers (MAP) for their Apps segment, a decrease from 1.8 million last quarter and 1.7 million last year. However, Average Revenue per MAP grew to $52, up from $48 last quarter and $46 last year.
Regarding the Software Platform, net revenue per installation increased 7% YoY in Q2’24 while the volume of installations increased 77% YoY, both strong indicators on the effectiveness of its AppDiscovery product.
Valuation
On the top line, AppLovin is trading at the highest it’s traded since the 2021 blowoff top at 6.5X Forward PS. We could see a re-rating of stocks to pre-2022 top line valuations, but this is incredibly speculative. Therefore, a 4X Forward PS is a better target, in our opinion. Unity is trading at a 3.7X Forward PS.
On the bottom line, AppLovin trades at a lower multiple relative to its growth rate at 11x NTM EV/EBITDA and 20.5x LTM EV/FCF. Its closest competitor, Unity, trades at 16x NTM EV/EBITDA and its revenue its projected to fall 16% YoY this year due to backlash from the controversial Unity Runtime Fee last year, poor execution on integrating ironSource, and management turnover, compared to AppLovin’s 33% projected growth.
The reason behind this discount seems to be driven by AppLovin’s shrinking Apps segment. Although it reported 7% YoY growth in Q2’24, it was down 20% from two years ago as AppLovin intentionally divests away from the segment to focus on software. However, this segment continues to be profitable, with adjusted EBITDA margins never falling below management’s 15% long-term target over the last two years.
Even if we assign zero value to the Apps segment, the business still trades at 15x LTM EV/EBITDA for the Software Platform segment alone, which grew revenue 80% YoY over the same period and continues to project 20% to 30% growth.
Another concern could be AppLovin’s period of no-growth in 2022, where revenues stagnated YoY. However, this came after blistering 92% YoY growth in 2021 and before the launch of AXON 2.0 which has driven accelerating Software Platform growth since Q2’23.
While the durability of revenue growth associated with AXON 2.0 remains difficult to predict by management’s own admission, the product is becoming stronger every quarter and that is directly translating to efficiency gains and higher growth.
Conclusion
Ad-tech is one of the industries with the most potential to be transformed by AI and AppLovin is emerging as one of the leaders with its AXON 2.0 engine. AppLovin’s core advantage comes from its superior access to data, leading to better targeting, which leads to more data and so on. We see continued strong growth for the Software Platform segment because of this, driving high growth and an improving margin profile for the company.
We continue to watch AppLovin with interest as it continues to take share within mobile gaming and expand its AI engine to additional industries. Although we are not considering a buy at this time, Knox has a trading plan, which he will share with Advanced Members in this upcoming Thursday webinar.
This analysis is a preview of what you can expect in our upcoming Discovery tier, which will provide additional analysis on new idea generation stocks that are not currently in the I/O Fund portfolio. We look forward to launching this tier late August/early September. There will be no changes to our current service tiers, rather I/O Fund Discovery is a service for those who want more new stock ideas beyond what our service currently provides. Stay tuned for more information!upcoming Discovery tier, which will provide additional analysis on new idea generation stocks that are not currently in the I/O Fund portfolio. We look forward to launching this tier late August/early September. There will be no changes to our current service tiers, rather I/O Fund Discovery is a service for those who want more new stock ideas beyond what our service currently provides. Stay tuned for more information!
Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.
AppLovin is an ad-tech company that saw a strong acceleration in growth and margins this past year driven by AXON 2.0, an AI-powered advertising engine that efficiently acquires users for mobile game publishers.
At IPO in 2021, AppLovin made most of its revenue from its Apps segment, a portfolio of free-to-play mobile games. This was historically seen as a cost center as AppLovin could gain a valuable trove of first-party data to feed into improving its user acquisition algorithms. However, management has since made an important pivot to grow its Software Platform segment, composed of MAX, its supply side platform (SSP) and AppDiscovery, its demand side platform (DSP).
This was because as MAX grew, AppLovin had a better source of data and gradually restructured its Apps business to focus on maximizing profitability. This transition made sense given the drastically different margin profile of the two segments, with a 15% long-term adjusted EBITDA margin profile for Apps compared to the over 73% adjusted EBITDA margin of the Software Platform segment.
After Apple announced its App Tracking Transparency (ATT) policy in 2021 which limited advertisers’ ability to track users across apps, AppLovin’s data became even more valuable as advertisers sought out AppDiscovery’s user acquisition algorithms to acquire high value users cost-effectively.
Furthermore, AppLovin’s CEO has repeatedly made clear that its AI recommendation engine has applications far beyond mobile gaming. It acquired Wurl, a Connected TV (CTV) SSP, in 2022 as an initial foray into CTV.
With a mobile ad network significantly larger than others in the market, AppLovin’s end-to-end advertising stack gives it a unique data advantage which enables superior algorithms that deliver better ad conversion rates, leading to higher return on ad spend to advertisers and higher spending, which attracts more inventory, leading to even better algorithms and so on.
Provided we can get the stock at a reasonable valuation, due to a durable data advantage, we believe AppLovin will be well-positioned to outperform.
Business Overview
AppLovin’s business consists of two segments: a fast-growing, high margin Software Platform and a slower-growing, lower margin (but still profitable) Apps segment consisting of its portfolio free-to-play mobile games. Our focus is on the software segment as it continues to drive top-line growth, powered by its AXON 2.0 AI-engine which we will discuss below.
Software Platform Segment (66% of Revenue, 87% of Adjusted EBITDA in Q2’24)
AppLovin’s software platform enables mobile gaming publishers to monetize their ad inventory, acquire new users more cost-effectively, and optimize their ad spend through three solutions:
MAX is AppLovin’s mediation platform, a type of supply-side platform (SSP) which is used by publishers to maximize the value they’re able to sell advertising inventory for by running real-time auctions across a wide range of ad networks. The service is free to use for publishers, with MAX charging advertisers a fee of 5% of header bidding. AppLovin acquired MoPub from Twitter for $1.05 billion in cash in 2022, turning MAX into by far the largest mediation platform for mobile gaming today.
AppLovin’s largest competitor in this segment is Unity Software, which has its own “Grow” segment where it offers tools to monetize and acquire mobile gaming users. It completed a $4.4 billion merger with ironSource in 2022, which was intended to remedy Unity’s own troubled mediation software as ironSource had its own leading mediation platform and tools for creating and managing ad campaigns.
AppLovin actually offered to acquire Unity at $58.85 per share in August 2022 before its planned merger with ironSource. Unity turned down the offer and continued with the merger, which has not proven successful. In January 2024, Unity cut 25% of the combined company’s employees and the ironSource founders left shortly afterwards. In its recent Q2’24 earnings report, Unity’s Grow solutions revenue was $296 million, down 9% YoY and up 1% QoQ after two quarters of QoQ declines. This was a far cry from AppLovin’s own Q2’24 result of 75% YoY and 4.9% QoQ growth for its software segment to $711 million.
AppDiscovery, the majority of the software platform’s revenue, is AppLovin’s demand side platform (DSP) that leverages machine learning to identify high value users that are mostly likely to download and engage with an app and help game publishers to earn the highest return on ad spend. Advertisers pay AppLovin, typically on a cost-per-install performance-basis, who passes on the spend to publishers on a cost per impression model.
Adjust is a SaaS solution that provides analytics to optimize ad performance. It generates revenue mainly through an annual software subscription fee.
Finally, Wurl, a company that AppLovin acquired in 2022, essentially does what APP does but for the connected TV industry. It helps video content creators distribute, monetize, and acquire new users. Wurl generates revenue primarily from content companies which typically pay Wurl on a usage-basis.
Apps Segment (34% of Revenue, 13% of Adjusted EBITDA in Q2’24)
AppLovin’s other main business segment is Apps. AppLovin owns or partners with ten studios worldwide which have published over 200 free-to-play mobile games – mostly in casual and card game genres which are more predictable and target a wider audience.
These apps are monetized through in-app purchases by users (68% of apps revenue in H1’24) as well as advertising (32% of apps revenue in H1’24), with in-app advertising growing slightly more at 8.8% YoY compared to in-app purchases growing at 5.1% YoY.
This segment has become a secondary focus for AppLovin, and they’ve stated their openness to divestitures though they are waiting for the market to improve. The number of studios they partner with has also dropped from 14 in Q2’21 to ten today.
AppLovin competes against other publishers like Activision, Tencent, and Zynga. Notably, many of these companies are also customers for the software segment, with the CEO noting on the Q2’24 call:
“At this point, our platform is so successful in mobile gaming, it's very, very hard for any publisher to look the other way. And so we've gotten a lot more adoption across even those publishers. There isn't really a customer that I know of in mobile gaming that does not find success — scalable success on our platform at this point today.”There isn't really a customer that I know of in mobile gaming that does not find success — scalable success on our platform at this point today.”
Acceleration from AI-Powered Platform
AppLovin’s revenue growth saw a dramatic acceleration over the last four quarters, improving from -3.36% YoY growth in Q2’23 to 44% YoY growth in Q2’24, driven by the Software Platform which rose from 54% of revenue to 64% over the same period.
Management accredited a large part of this acceleration to the launch of AXON 2.0 in early 2023, with growth from this pivot first showing up in the numbers in Q2’23. AXON leverages data from its MAX mediation software to train AXON, an AI-powered advertising engine that drives AppLovin’s AppDiscovery product.
MAX gives AppLovin data on what different ad networks are willing to bid for ad placements, allowing AXON to competitively bid for ad placements to maximize return-on-ad-spend.
Management effectively encapsulates why the combination of their algorithm and their data gives them a first mover advantage in the Q1’24 call:
“We built cutting-edge AI technologies. It's a multi-year effort for anyone to be able to look at that and go be able to replicate that. And I don't even think it's conceivable that it's something that can be replicated. So, by the time there's anyone that's actually going to be able to compete against our technology, we will be years advanced from where we are today because we're continuing to evolve the technology.multi-year effort for anyone to be able to look at that and go be able to replicate that. And I don't even think it's conceivable that it's something that can be replicated. So, by the time there's anyone that's actually going to be able to compete against our technology, we will be years advanced from where we are today because we're continuing to evolve the technology.
Second piece is, we can open-source our code tomorrow. We can hand-out the code to competition. It still won't matter because these technologies need data that they're achieving in the marketplace to be able to drive themselves. So, if you think about like AI models, like what makes an AI model impactful? Well, they're utilized and that data feedback that they get from human behavior retrains the model and allows the model to continue to improve itself.”We can hand-out the code to competition. It still won't matter because these technologies need data that they're achieving in the marketplace to be able to drive themselves. So, if you think about like AI models, like what makes an AI model impactful? Well, they're utilized and that data feedback that they get from human behavior retrains the model and allows the model to continue to improve itself.”
Given AppLovin’s reliance on user tracking to feed its algorithms and how its apps business was impacted by IDFA changes in the past, one of the largest risks are privacy initiatives by Apple and Alphabet to limit user tracking. The CEO responded to this by noting on the Q3’23 call:
“Look, we’ve dealt with privacy changes probably since 2014. Every time there’s a change on platform or with regulators, you’ve changed something in your stock, but we’re a nimble company, we’ve rewritten our core technology multiple times over the years, and we are always able to adapt and perform in the face of any of those kinds of changes.”
Management has also hinted at possible applications outside of gaming, with AppLovin launching its first web advertising campaigns for e-commerce in Q2’24 and noting its early success, with material contributions expected as soon as 2025.
“In the quarter, Q2, we launched pilot of our web advertising program…This allows an e-commerce shop that has a website to buy on our in-app inventory, the billion-plus daily active users we see in mobile gaming, a video advertisement routes that user to their shop and purchase that user in the same way that mobile game companies like purchasing users on our platform.
…Results are looking really promising, materially better than what we would have expected this early in our progression in trying to get into web advertising. So this product, we think is something that we're going to invest heavily behind, start scaling out and hopefully will show a material impact in '25 and beyond. And it is not limited to just e-commerce. It opens the door to advertising for any website of any type that wants to drive transactions that are measurable on a performance basis on our platform.”hopefully will show a material impact in '25 and beyond. And it is not limited to just e-commerce. It opens the door to advertising for any website of any type that wants to drive transactions that are measurable on a performance basis on our platform.”
In the Q2’24 call, management expanded on how improving the algorithm both as a function of more data and model improvements can lead to 20 to 30% long-term software segment growth, compared to industry growth in the low-single-digits, without accounting for expansion into new verticals.
“You've got a mobile gaming category. It's got a few percentage points of growth a year now. So let's call that low-single digits. You've got a business that as these models continue to improve from gathering more data, we think that's an extra 3%, 4% a quarter as well. So, that sort of gets you to the low end.as these models continue to improve from gathering more data, we think that's an extra 3%, 4% a quarter as well. So, that sort of gets you to the low end.
And then we've got a team that's constantly working on improving the models and any improvement that's actually develop or driven enhancement to the models that makes them more accurate, then steps you up into the higher-end of that range. And so we've got a lot of confidence in the growth goal we put out there just on a baseline basis the current business.”any improvement that's actually develop or driven enhancement to the models that makes them more accurate, then steps you up into the higher-end of that range. And so we've got a lot of confidence in the growth goal we put out there just on a baseline basis the current business.”
AppLovin Q2 Financials
AppLovin reported a decent Q2’24, with a bottom-line beat and top-line that was in-line with estimates. Guidance also came ahead of estimates on revenue and adjusted EBITDA.
The software segment again was the driver of growth, reporting 75.1% YoY growth, compared to the overall business at 44% YoY growth, but QoQ growth slowed noticeably from recent quarters.
The highlight of the report was the strong margin improvements, driven by both the continued mix shift towards higher margin software revenue as well as outperformance in apps segment margins due to a reduction in costs.
AppLovin’s Q3’24 guidance also continues to assume strong growth; if the apps segment grows at the same rate YoY as Q2, then the guidance implies a slight re-acceleration in the Software Platform segment from 44% YoY growth to 46.6% YoY growth.
Revenue and EPS
Q2 revenue grew by 44% YoY to $1.08 billion. It was in-line with expectations
AppLovin guided for Q3 revenue of $1.125 billion at the midpoint, representing YoY growth of 30.2%, beating $1.10 billion consensus by 2.2% at the midpoint.
Management remains confident that they can grow their software segment at a 20% to 30% CAGR for the long term after first mentioning the goal last quarter.
Margins
Margins remained strong with gross, operating, adjusted EBITDA, and net margins all expanding YoY and QoQ, driven by a mix shift towards higher Software Platform revenue and cost discipline. Management expects these margin improvements to continue, guiding for QoQ expansion in adjusted EBITDA margin.
Gross profit rose 62.2% YoY to $797.6 million. Gross margin was 73.8%, up from 65.5% last year and 72.2% last quarter.
Operating income rose 197.2% YoY to $391 million. Operating margin was 36.2%, up from 17.5% last year and from 32.1% last quarter.
Net income rose 285.7% YoY to $310 million. Net margin came in at 28.7%, up from 10.7% last year and 22.3% last quarter. GAAP EPS of $0.89 beat estimates by $0.16, representing YoY growth of 304.5%.
Quarterly EPS growth is expected to level off with GAAP EPS of $1.01 expected for Q3’24 and the same for Q2’25.
Adjusted EBITDA rose 80% YoY to $601 million, beating guidance by 7.3% at the midpoint. Adjusted EBITDA margin was 55.7%, beating guidance of 52.5% at the midpoint and up from 44% last year and 52% last quarter.
Management guided for further improvement in adjusted EBITDA margins next quarter, targeting $640 million at the midpoint, representing a 57% margin and beating consensus of $587 million by 9%.
Cash and Debt
Operating cash flow was $454.5 million, up 97.8% YoY. Operating cash flow margin was 42.1%, up from 30.6% last year and 37.1% last quarter.
Free cash flow was $445.5 million, up 101.9% YoY. Free cash flow margin was 41.2%, up from 29.4% last year and 36.6% last quarter. For comparison, analysts expect competitor Unity Software to only earn a 12.7% FCF margin in 2024, compared to 8.2% in 2023. Digital Turbine, another ad tech company that offers user acquisition and monetization services is expected to earn just 4.3% FCF margins for FY’25 (ending March 2025) compared to 0.8% in FY’24. Even The Trade Desk, the leading DSP, is expected to earn 27% FCF margins in 2024, compared to 28% in 2023.
For Q2 2024, the company has $3.52 billion in total debt, up slightly from the $3.50 billion in total debt reported in the previous quarter and $3.2 billion last year. AppLovin reported $460.45 million in cash and marketable securities, down from $876.2 million last year but up from $436.3 million last quarter.
AppLovin repurchased 4.2 million shares for $356 million in the quarter. They currently have $500 million remaining in its $1.25 billion repurchase authorization. AppLovin has taken advantage of the drawdown in its share price to repurchase shares, reducing its share count by 10.6% since the end of 2022.
Revenue Segments
AppLovin’s Software Platform revenue grew 75% YoY and 4.9% QoQ to $711 million, marking the sixth consecutive quarter of QoQ acceleration driven by AXON 2.0, though noticeably by a smaller percentage than previous quarters.
AppLovin’s Software Platform adjusted EBITDA grew by 90.7% YoY and 5.8% QoQ to $520.5 million. Software EBITDA margins were 73.2%, up from 72.6% last quarter and 67.2% last year.
AppLovin’s Apps segment revenue grew 7.2% YoY to $369.1 million, marking the second consecutive quarter of YoY growth.
AppLovin’s Apps segment adjusted EBITDA grew 33.1% YoY and 42.2% QoQ. Apps adjusted EBITDA margins were 21.9%, a significant improvement from 18% last year and 15% last quarter. This quarter was a standout due to a readjustment in user acquisition return goals, resulting in a 11% QoQ decrease in app segment costs. Management expects Apps EBITDA margin to normalize at 15% over the long-term.
Key Metrics
AppLovin logged 1.6 million Monthly Active Payers (MAP) for their Apps segment, a decrease from 1.8 million last quarter and 1.7 million last year. However, Average Revenue per MAP grew to $52, up from $48 last quarter and $46 last year.
Regarding the Software Platform, net revenue per installation increased 7% YoY in Q2’24 while the volume of installations increased 77% YoY, both strong indicators on the effectiveness of its AppDiscovery product.
Valuation
On the top line, AppLovin is trading at the highest it’s traded since the 2021 blowoff top at 6.5X Forward PS. We could see a re-rating of stocks to pre-2022 top line valuations, but this is incredibly speculative. Therefore, a 4X Forward PS is a better target, in our opinion. Unity is trading at a 3.7X Forward PS.
On the bottom line, AppLovin trades at a lower multiple relative to its growth rate at 11x NTM EV/EBITDA and 20.5x LTM EV/FCF. Its closest competitor, Unity, trades at 16x NTM EV/EBITDA and its revenue its projected to fall 16% YoY this year due to backlash from the controversial Unity Runtime Fee last year, poor execution on integrating ironSource, and management turnover, compared to AppLovin’s 33% projected growth.
The reason behind this discount seems to be driven by AppLovin’s shrinking Apps segment. Although it reported 7% YoY growth in Q2’24, it was down 20% from two years ago as AppLovin intentionally divests away from the segment to focus on software. However, this segment continues to be profitable, with adjusted EBITDA margins never falling below management’s 15% long-term target over the last two years.
Even if we assign zero value to the Apps segment, the business still trades at 15x LTM EV/EBITDA for the Software Platform segment alone, which grew revenue 80% YoY over the same period and continues to project 20% to 30% growth.
Another concern could be AppLovin’s period of no-growth in 2022, where revenues stagnated YoY. However, this came after blistering 92% YoY growth in 2021 and before the launch of AXON 2.0 which has driven accelerating Software Platform growth since Q2’23.
While the durability of revenue growth associated with AXON 2.0 remains difficult to predict by management’s own admission, the product is becoming stronger every quarter and that is directly translating to efficiency gains and higher growth.
Conclusion
Ad-tech is one of the industries with the most potential to be transformed by AI and AppLovin is emerging as one of the leaders with its AXON 2.0 engine. AppLovin’s core advantage comes from its superior access to data, leading to better targeting, which leads to more data and so on. We see continued strong growth for the Software Platform segment because of this, driving high growth and an improving margin profile for the company.
We continue to watch AppLovin with interest as it continues to take share within mobile gaming and expand its AI engine to additional industries. Although we are not considering a buy at this time, Knox has a trading plan, which he will share with Advanced Members in this upcoming Thursday webinar.
This analysis is a preview of what you can expect in our upcoming Discovery tier, which will provide additional analysis on new idea generation stocks that are not currently in the I/O Fund portfolio. We look forward to launching this tier late August/early September. There will be no changes to our current service tiers, rather I/O Fund Discovery is a service for those who want more new stock ideas beyond what our service currently provides. Stay tuned for more information!upcoming Discovery tier, which will provide additional analysis on new idea generation stocks that are not currently in the I/O Fund portfolio. We look forward to launching this tier late August/early September. There will be no changes to our current service tiers, rather I/O Fund Discovery is a service for those who want more new stock ideas beyond what our service currently provides. Stay tuned for more information!
Summary: According to Q3 earnings calls, Spotify may seek to broker user data in order to keep average revenue per user afloat. Known as programmatic advertising, this method of monetizing data to supplement music revenue may be Spotify’s only hope to stave off competitors who nip at the heels of the music-streaming app
Portions of this article were originally published September 27th, 2018 under 8 Reasons Spotify will be a Sell Recommendation by 2019 at $184 per share. This analysis has been updated to include the recent partnership with Google and programmatic offering Ad Studio.Spotify will be a Sell Recommendation by 2019 at $184 per share. This analysis has been updated to include the recent partnership with Google and programmatic offering Ad Studio.
Half Full or Half Empty? -6% ARPU in Q3 Compared to -12% ARPU in Q2
Spotify Technology met its Q3 forecast for paying subscribers and a few other metrics, but average revenue per user declined due to promotional accounts for families and students. Spotify ended the period with 87 million Premium subscribers worldwide, up 40% year-over-year. Spotify has 109 million monthly active users of its advertising-supported streaming service, up 8 million from Q2 or 20% YoY.
This quarter, Spotify’s average revenue per user percentage has improved but QoQ growth is still in the red. Average revenue per user declined to $5.50 in Q3 from $5.83 in Q2, or -6% following -12% the previous quarter.
Costly Partnership with Google
Spotify lacks the razor-razor blade Gillette analogy for tech companies, which in this case states you should have ownership of a device if you want to bank on the subscriptions. This is one reason I’ve been long on Roku since its IPO. Roku players are the cheap razors that will deliver the razor blades of ad-supported content in the OTT market. (You can read my analysis on Roku here). However, this lack of device ownership is causing trouble for Spotify. Smartphones dominated by Apple and Google are only part of the story. At home assistants such as Alexa are being designed and leveraged specifically for AI activated music services. To get a glimpse of Spotify’s future, consider that major record labels let Amazon offer a reduced Alexa version of the premium service at $3.99 per month and Apple is requiring users to sign in to Apple Music to power the HomePod – which completely shuts out devout Spotify users.
Spotify’s new strategy is to partner with Google to offer free Google Home Mini speakers to users who subscribe to the Family plan as part of a holiday season promotion. The partnership comes at a cost of approximately 50 basis points to the Gross Margin profile in Q4, the company noted. From Google’s standpoint, they get their entry level smart speaker into more homes, while Spotify benefits by having a partner for smart home infrastructure. Ultimately, this is one example of the lengths Spotify will have to go to in order to compete with Apple and Amazon on their home turf.
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Apple has Homefield Advantage
Most certainly, Apple won’t be beat in its own ecosystem. Apple revolutionized digital music with the iPod and iTunes. With smartphone penetration, the Beats acquisition, its Homepod ecosystem and a huge push into connected car infotainment, Apple can surround Spotify in nearly every direction. Keep in mind, that 66% of the world’s paying app users are iPhone users who trend towards higher incomes (vs. only 34% on Android), so Apple users are supremely important for Spotify’s $9.99 subscriptions.
In fact, the turf war has already receded Spotify’s market share. Record industry sources state Apple is adding paying subscribers at a rate of 5 percent in the U.S. versus 2 percent for Spotify, and that Apple Music may have already taken over Spotify as the number one streaming service in the United States.
In addition, Apple was cleared to complete the acquisition for UK-based music recognition app Shazam Entertainment for $400 million. Due to the threat this poses to Spotify and other smaller apps, regulators in seven countries contested the acquisition when Apple’s plans were first announced. Despite these efforts, the acquisition was approved in August of 2018. To date, Shazam has had well over 1 billion downloads, last reported in 2016, and owns a wealth of information on what music is trending with over 20 million searches per day.
Can Programmatic Ads Save Spotify?
Tim Cook is a chief critic on how applications and websites use private data to increase the accuracy of targeted advertising. Therefore, one area Apple clearly won’t compete is in the brokering of programmatic ads based on users’ music choices. Meanwhile, Spotify has every intention of letting advertisers target its users through Ad Studio.
Spotify would not be the first mobile application to supplement its core product with a programmatic offering. Facebook and Twitter owe at least 1/6thto 1/4thof their current revenue to programmatic proving it can substantially increase average revenue per user. Therefore, if Ad Studio is executed correctly, it may have the potential to limit stock losses even with stiff competition from Apple and Amazon.
“Last quarter we said that we expected our Programmatic and self-serve products to become a significant portion of our Ad-Supported revenue. If we’re successful in achieving this shift in revenue mix, then we also expect to achieve significant operating leverage in the ad sales business, increasing our operating margins. Last quarter we reported on our new automated self-serve platform, Ad Studio, which is live in the US, UK, Canada, and Australia. Ad Studio revenues are still quite small, but we’re seeing exponential growth, so expect to hear more about this product in future quarterly updates.”
Note About Tencent Music IPO:
Spotify owns Tencent Music Entertainment (TME) shares and it’s been stated in past financial reports that “a TME IPO would trigger a fair market value adjustment to the carrying value of our investment recognized in other comprehensive income. The gain could be significant.” This one-time, non-recurring event would generate a Net income for Spotify with a Net loss returning in the following quarters. Spotify stock holders should be aware that this one-time wave may be worthwhile to hold on for, but that the long-term prospects of the company are still not proven.
Conclusion
Spotify is a small fish in deep waters. Q3 earnings prove music streaming is a tough business. The company is attempting to partner with device owners, like Google, but these partnerships will eat away at Gross Margins in future quarterly earnings. I’m forecasting that Spotify will be in sell status through 2019 unless they can prove themselves with a strong programmatic offering through Ad Studio. Note the Tencent Music IPO will generate a net income for Spotify in the current quarter.
This article and previous Spotify analysis written by Beth Kindig has been published on Seeking Alpha. All original analysis contained herein should be appropriately credited to Beth Kindig.
