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Background
Adam Foroughi founded AppLovin’ in 2012 but the company was officially out of stealth-mode two years later. After graduating from Berkeley, Foroughi became a derivatives trader, where he saw how data was being used at scale. But he always wanted to be an entrepreneur, following in his dad’s footsteps, who had one of the largest construction businesses in Iran before the family fled to the US. After working at a start-up called Claria, Adam’s boss was leaving to start another business focused on marketing solutions for SMBs called LifeStreet. The business ended up doing pretty well which gave Foroughi enough capital to start another advertising-related business called Social Hour, before founding AppLovin’. Having a deep knowledge in advertising and app development, AppLovin’ was focused on getting more installs for gaming apps. After a while, the company did multiple acquisitions and has expanded its reach into a full-scale advertising platform, able to serve non-gaming apps and connected TV.
Business Overview
AppLovin’s business consists of connecting advertisers and publishers, mainly for mobile apps. The company owns or partners with 11 different mobile gaming studios, which have produced more than 200 games. This is a rich source of first-party data that the company has built up over the years, giving them access to millions of player profiles with granular demographic data. This allows them to go to advertisers with a strong ROI-based pitch. In the early days, most advertisers were also mobile game companies. Let’s say you created a new Candy Crush competitor but you needed to spread the word. You may use AppLovin’s AppDiscovery product to ensure you hit your installation goals. It’s basically like Facebook Ads Manager, where you create your ad and then AppLovin’ does its magic and spits out downloads when you put in dollars. Eventually, as your app grows, you probably want to monetize it as well. Then you could use AppLovin’s MAX product to do real-time bidding to ensure your user base monetizes at the highest rate possible.
It’s just like Google’s AdSense, where the publisher (the website owner) wants the highest advertising dollars while the advertiser wants the best ROI for their ad dollars. AppLovin’ fulfills this exact purpose but mainly focused on mobile apps, though they somewhat recently moved into CTV through their Wurl acquisition. Going back to MAX really quickly, AppLovin’ acquired this technology through its MoPub acquisition from Twitter for $1 billion in 2021. MoPub allowed AppLovin’ to secure its place as the primary mobile app bidding platform for publishers. With its strong first-party data from its 200 apps to satisfy advertisers along with a formidable publishing platform, AppLovin’ has created a ROI competitive advantage.
The Numbers
The numbers are very pretty. FCF margins were above 30% last year and analysts predict that they could reach 40% next year. The software platform does 70% adjusted EBITDA margins, which are still likely to be above 50% after backing out all of the extra items. Very few companies can grow revenues 30% with 50% FCF margins. The capital light nature of this middleman business is incredibly scalable. With more publishers and more advertisers, ramping up is fairly easy with a self-service ad portal. The company’s first-party apps business has declined by mid-teens in both of the last two years, which is a drag on the overall topline but the software business is more than making up for it. While it’s a little tough to get a perfectly organic growth number, the software business alone did grow nearly 90% in Q4. I’m sure the relatively recent CTV acquisition is included in that number but it’s still very impressive.
In late 2022/23, the overall topline numbers looked very weak but that was partly due to a weird accounting convention associated with the MoPub acquisition. AppLovin’ actually had to spend nearly $300 million to buy out all of the publishers so they would stay on rather than leaving for a competitor. Since the acquisition broke the terms of the agreement that publishers had with MoPub, they were free to leave their contracts. So AppLovin’ sweetened the deal and apparently, over 80% of the publishers stayed. But this buyout was actually a contra-revenue line item rather than an expense so it made the topline look much weaker than it actually was.
All in all, AppLovin’s numbers are pretty – especially when you take the software platform in isolation. I think the first-party apps business will always be around so that they can sell the picture of differentiated first-party data but the real free cash flow comes from the software business.
Market Size
Advertising is a huge market – that’s obvious. But I think AppLovin’ was pigeonholed a little bit into thinking they were just a mobile gaming advertising platform. But with some of its acquisitions, it has really built out a much fuller offering. Its non-gaming ad revenue is growing much faster than gaming revenue and its non-app revenue is growing even faster than that. While it got its start in mobile gaming and it has differentiated data in that space, the company is utilizing its reputation and technology to expand its platform.
With this optionality, the TAM is plenty big and the company has a lot more room to grow.
Moat/Competition
The one competitor that everyone says to watch in this space is Unity. Its creator platform is a core part of the developer community along with Epic Games’ Unreal Engine. Unity added onto its gaming engine by allowing creators to monetize their games through advertising. So they also have a very strong app advertising model. However, in the last year or so, Unity has really fumbled the ball. It started in September of 2023, when the company announced a new $0.20 per install fee for developers with over $200,000 in revenue. That seems reasonable until you realize that can end up being about 20% of revenue for a lot of developers. It’s all about decreasing the cost per install since that is what you can monetize and adding a fee like that just started an outrage in the developer community. The company has since walked back this decision but the brand damage was done. I do think this is one reason for AppLovin’s growth – just developers moving over to AppDiscovery rather than using Unity’s advertising engine. It’s hard to quantify this impact but it’s likely at least a couple percentage points.
The company also competes with the large players, of course, like Google and Facebook (yes, I know they are called Alphabet and Meta now but I’m old school). Developers can always run ads through these platforms to get installs. These companies are so valuable because, well, the ads work so they are always to be mentioned in the same conversation as an advertising company. Further, Google owns Android so it’s very important for the app ecosystem in general. And, of course, then you have to talk about Apple. When Apple announced IDFA (Identifier for Advertisers), it was the shot heard ‘round the advertising world. No longer would ad companies have the ability to track users at all times – users now had the option to opt-out of being tracked. This hit Facebook the hardest as it relied on third-party data across different apps, not just Meta properties. However, since AppLovin’ had a trove of first-party data, it wasn’t hit quite as hard.
But the point remains that the advertising ecosystem is always changing. Facebook has righted the ship by utilizing AI to make its ad algorithms stronger and commanding premium CPMs once again. And AppLovin’ has done the same thing through its AXON 2.0 engine. It uses AI to match buyers and sellers more precisely to increase the revenue per install for publishers while decreasing CPMs for advertisers. So far, it seems to be working really well. It’s sort of a black box but management has attributed the new-and-improved technology to the re-acceleration of the software platform’s growth.
Risks
We already touched on it but being an advertising platform comes with an ever-changing landscape. Whether it's the deprecation of cookies on Google or IDFA, there is always something new happening in the ecosystem to strike the balance between privacy and advertising effectiveness. Apple is focused on privacy since it makes users feel better and they don’t quite care much about making boatloads of money for Meta and Google. Despite all of the industry changes, AppLovin’ has navigated these waters pretty nicely over the past decade or so.
Second, a more existential risk is the form factor of apps changing. If we do use VR systems more regularly, will apps still be utilized to the same degree? Or will the nature of advertising look much different? Or will AppLovin’ be able to squeeze itself into the new ecosystem? I imagine AppLovin’ would be able to adapt into the new form factor since it’s just the advertising engine but its first-party data might be impaired. I guess its app studios would just have to start developing games for the Vision Pro. That’s the important thing to realize with AppLovin’ – the first-party business isn’t a good business but it lays the foundation for why the software platform can be a very good business. It’s almost like there isn’t a strong competitive advantage without the “bad” business. It’s just so much easier to sell the software platform when customers know there is that first-party differentiation. And AXON 2.0 running on top of all of that data is proving out why that’s so important.
Third, and we’ll get into this more in the next section, but I don’t love the fact that the company has done so many acquisitions and they were willing to sell to Unity. It seems like the platform has been cobbled together and that makes me worried for the user experience. However, if customers are flocking to use it, then those worries aren’t super valid.
Management
Adam Foroughi owns about 8% of the company, worth $2.7 billion, so he is heavily incentivized. One thing that I am having a hard time getting over though is that AppLovin’ tried to buy Unity and Foroughi was willing to let Unity’s CEO be in-charge. The CEO at the time was John Riccitiello, who was accused of sexual harassment a few times but ultimately had to step down because of the install fee fiasco at Unity. The fact that Foroughi would give the reins to Riccitiello makes me nervous since it seems like Foroughi doesn’t have the long-term mindset I typically look for. As another piece of evidence, AppLovin’ tried selling the business in 2016 to a Chinese private equity firm but the takeover actually got blocked by a US institution that was cracking down on Chinese foreign investment into the US around the time Trump was elected. The fact that Forough has tried to sell the business twice, unsuccessfully, to less-than-stellar operators makes me nervous for the long-term vision of the company. Further, since the business has done so many acquisitions I’m almost positive there is a good amount of technical debt to go along with the financial debt.
To speak out of the other side of my mouth, Forough is a billionaire a few times over and he is clearly a good businessperson. The fact that he wanted to sell but is still at the helm shows that he’s not checked out yet. And the acquisitions they have done have been pretty good. Getting MoPub for $1 billion and deepening AppLovin’s moat substantially is a perfect example of Foroughi’s savvy.
Conclusion
AppLovin’ is a very interesting, profitable business. Though it has a little bit of a complex background, with large acquisitions and a big debt balance, the company has built a strong two-sided network. With its valuable first-party data as a selling point, its third-party software business is a cash flow machine. While I have a few concerns about management, I would be remiss to not marvel at the way the team has navigated regulation, competition, and its product suite.
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