Tim Culpan is a technology columnist for Bloomberg Gadfly. He previously covered technology for Bloomberg News.

Momo Inc.'s 20 percent share price plunge after reporting second-quarter earnings might look like a hysterical reaction.

"Unjustified," said Nomura analysts.

"A good accumulating opportunity," the Jefferies research team wrote.

Investors dumped Momo's stock in New York on Tuesday
Source: Bloomberg
Intraday times are displayed in ET.

Analysts and investors shouldn't be too surprised, though: First-day declines are somewhat a norm for the Chinese internet company. Even on days when it beat earnings estimates (which Momo always does), the stock has fallen more often than it's risen.

Momo shares have a tendency to drop sharply after earnings, even when they beat analyst estimates
Source: Bloomberg

That doesn't mean the latest decline is unjustified. While the headline numbers -- revenue, operating profit, net income, sales outlook -- all looked healthy, there's enough detail between the lines to make investors feel that Momo's 145 percent rally this year was ready to end.

Chief among them is the lack of growth in one of its most important metrics: paying live-video users. After a reinvention of its business model two years ago, from dating app to content streaming, Momo relied on getting viewers to tune in regularly enough to then extract money from them in the form of tips to performers and advertising. With this figure barely moving, investors see an early hint that Momo's customer base isn't engaged enough to want to pay for premium access.

Momo saw no growth in the number of consumers willing to pony up for premium access
Source: Momo

Adding to this concern is Chairman and CEO Yan Tang's comment during Tuesday's conference call that while there was growth in overall user numbers -- meaning premium and free active users on a daily or monthly basis -- engagement was going nowhere: 

Average time spent per DAU in the second quarter remained stable, both on a year-on-year basis and a on a sequential basis.

Stability is nice when you're flying a plane or balancing plates. It's not great when your stock has doubled and trades at 23 times forecast earnings. Just two years into Momo's business-model reset, it needs to be viewed more like a publicly traded startup than a calm and stable company. This means that user growth and engagement growth are the foundations of long-term revenue growth: If this flywheel stops spinning, the risk is that income will also falter.

On the other side of the P&L is the increasing cost to attract and keep users. Year-on-year comparisons are normal to judge an established company and remove seasonality, but for this stage of Momo's development, quarterly data may be a better guide. There, we can see that expense growth outstripped revenue expansion for a second consecutive period. This means that it's costing more and more to attract every extra dollar of revenue.

That situation might be acceptable if you're adding users at a solid pace, and betting that you'll be able to squeeze more money out of them later. But as we saw, engagement is merely "stable" while growth in users actually lags cost increases.

Diminishing Returns
For a second straight quarter Momo cost growth outpaced revenue as user numbers look anemic
Source: Momo, Bloomberg Gadfly

A final consideration is the competitive landscape. It's easy to look at fellow live-streaming provider YY Inc. as the major rival, but the real challenge to Momo (and YY) is attracting user attention in the face of distractions that include games, scripted shows and social networking.

I've written previously about the big efforts being made by Baidu Inc., Alibaba Group Holding Ltd. and Tencent Holdings Ltd. to buy and distribute content. These are companies with deep pockets and a determination to attract more user attention.

Momo's rally has been built on an extraordinary growth story. It's no wonder investors jumped ship at the first sign of trouble.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Tim Culpan in Taipei at

To contact the editor responsible for this story:
Paul Sillitoe at