Reddit (RDDT) has become a main topic among investors, sparking debates over its growth prospects and challenges.

In a note to clients Wednesday, Needham&Company analysts outlined the top seven bullish and bearish arguments that investors are considering. Here’s a breakdown:

Bull Points

Large and Rapidly Growing User Base: The firm notes that as of June 2024, Reddit reported 342.6 million weekly active users (WAUq), a 57% increase year-over-year, and 91.2 million daily active users (DAUq). The growth is seen as signaling a healthy platform ecosystem, which investors see as a lead indicator for advertising revenue growth. Reddit’s expanding user base is expected to translate into ad monetization upside, with the company showing accelerating growth for the past five quarters.

Community-Based Engagement Growth: Needham said Reddit hosts over 100,000 active subreddits, fostering highly engaged and authentic user communities. They believe the subreddits provide rich opportunities for targeted advertising and data licensing, creating a formidable barrier for competitors. Furthermore, investors are said to appreciate the unique structure, which they believe strengthens the platform's stickiness.

Data Licensing Upside: The firms noted that Reddit’s data licensing revenue surged over 690% year-over-year in Q2 2024, largely due to a deal with OpenAI and its ongoing partnership with Google’s Gemini. Needham believes Reddit’s conversation data is invaluable for AI language models, helping them understand human language better. The firm says the segment could reach over $500 million annually, up from $100 million estimated for 2024.

Margin Expansion: Reddit’s operating leverage is seen as a key point of interest. With its fixed-cost business model, Reddit’s user growth is expected to drive revenue growth, potentially leading to a tripling of EBITDA margins from 16% in 2024 to over 40% by 2030.

“Enormous TAM” (Total Addressable Market): Global advertising is projected to exceed $1 trillion in 2024, with Reddit capturing just 0.1% of that market. This is said to leave Reddit with substantial growth potential, as it aims to expand its advertising revenue.

International Revenue Potential: With 50% of Reddit’s users outside the U.S. but only 19% of its revenue coming from these regions, the platform’s international growth presents a significant opportunity. Reddit is rolling out translation tools in 35 new countries, further unlocking potential revenue from non-English-speaking markets.

Authentic Human-Generated Content: Needham said Reddit is “widely respected for its authentic content,” making it a favored platform for market research and crisis monitoring.

Bear Points

Profitability Concerns: On the other hand, Needham acknowledges that investors worry about potential disruptions to Reddit’s profitability due to rising competition, economic headwinds, and ad demand contraction.

Monetization Challenges: They also state that despite recent success, Reddit’s monetization efforts are relatively new, and scaling them may be challenging, given that the platform was founded almost 20 years ago.

Reliance on Google (NASDAQ:GOOGL): Reddit's traffic is seen as heavily dependent on Google Search, with 1.3 billion visits coming from search results in April 2024. Needham notes that reliance makes Reddit vulnerable to changes in Google’s search algorithms.

Concentration Risk: Reddit’s top 10 advertisers accounted for 26% of its total revenue in 2023. The firm says this poses risks if any of these large clients reduce spending.

Meme Stock Risk: Reddit’s communities have been involved in meme stock events, such as the GameStop (NYSE:GME) short squeeze, raising concerns about stock volatility and regulatory scrutiny.

Late to the Video Space: Reddit’s entry into the video segment comes late, says Needham. Therefore, they feel building a competitive product in this space could increase costs and risks for the platform.

Moderation Challenges: Reddit’s unpaid subreddit moderators are both a strength and a weakness, according tot he firm. They explain that if they demand compensation or reduce their involvement, content moderation quality could suffer.

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