Times are tough for the stock of Reddit (NYSE: RDDT), the social-media stalwart that allows users to create communities and converse about their interests.
Shares have plunged 59% year to date amid concern about slowing user growth and the threat of artificial intelligence. That slowdown could put a dent in ad revenue, which accounted for 94% of total revenue last year.
But it’s not as if user growth is collapsing. Daily active users climbed 12% year-on-year in the third quarter, decelerating from an 18% expansion in the second quarter. The user total shrank 2% in the U.S. during the latest quarter, but soared 24% overseas, where 61% of users are located. Meanwhile, Reddit’s revenue surged 53%.
Obviously decelerating user growth isn’t a good thing, but apparently it’s not hurting revenue. Perhaps investors have overreacted.
For anyone unfamiliar with Reddit, it consists of thousands of independent, topic-specific communities known as subreddits, where users converse with each other about the topic. Anyone can create a community about whatever interests them. Registered users post everything from personal commentaries, to links, to videos.
Targeting consumers
The platform is attractive to advertisers because they can easily target consumers. For example, a subreddit centered on tennis would make fertile advertising ground for tennis racquet suppliers. And Reddit users’ posts can provide valuable information for advertisers to use in their efforts to attract customers.
Also, “many Redditors visit the platform actively seeking information or advice, giving advertisers a unique opportunity to engage with high-intent audiences who are actively researching products for reviews and feedback,” notes Morningstar analyst Malik Ahmed Khan.
One problem for Reddit is its reliance on Alphabet’s (NASDAQ: GOOGL) Google as a conduit for users. They click on Reddit links in their Google-search responses. But with Google now beginning its response to searches with an AI Overview, searchers don’t need to click on links to get information.
So AI threatens to cannibalize the search traffic coming to Reddit from Google. Referral traffic comes to Reddit from other platforms as well, including OpenAI’s ChatGPT and Meta Platforms’ (NASDAQ: META) Facebook.
Search referral traffic decline
“Our search referral traffic was down meaningfully in the third quarter, with the decline accelerating later in the quarter,” the company said in its third-quarter letter to shareholders. And the slump continued into this quarter, with search traffic dropping by more than 1 million referrals on average per week.
Google pays Reddit an estimated $60 million a year to scrape content from the site. These data are then deployed in the Google AI products that seem to have diminished Reddit’s traffic. Google and Reddit are in the midst of contentious negotiations to renew the scraping agreement.
The relationship is a problem for Reddit, said Morningstar’ Khan. “We continue to view dependence on Google as the biggest structural risk for Reddit.” Reddit management has attributed its decline in search traffic to Google’s expansion of its AI Overviews and AI Mode, he notes. But that likely won’t change Google’s stance on its AI products soon.
Still, Reddit’s ad operation continues to shine, he said. “With logged-in users accounting for 80% of Reddit’s monetization and revenues per user climbing 36% in the third quarter, the core ad engine is allowing Reddit to grow strongly despite the user growth issues.”
So don’t count Reddit out yet.
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