Apple’s (NASDAQ: AAPL) recent launch of iTunes Radio on Sep 18th 2013, has put immense pressure on Pandora Media (NYSE: P), one of the biggest internet radio service providers. Apple added iTunes Radio to iPhones and iPads with the latest iOS update. In reaction to this, Pandora’s stock price declined by more than 10% on Sep 23rd as 11 million active listeners tuned into iTunes radio. This would mean a huge loss of market share for Pandora Media. In addition to the features already offered by Pandora, iTunes also includes the ‘tune this station’ feature, which allows the users to stream their favorite hit songs.
A brief comparison between Pandora Media and Apple iTunes would give us a better idea of Pandora’s current market position:
iTunes has a clear advantage of being pre-loaded on all iPhones & iPads running iOS-7, whereas for Pandora radio, it needs an application download and installation. As users start migrating to iOS-7 there will be more traction for iTunes radio service which is highlighted as a new feature. Moreover, history suggests that no single player ever emerged as a preferred internet music brand, which means very less room for ‘customer loyalty’.
What is not clicking for Pandora?
- Non-profitable Revenue Growth – Pandora witnessed solid top line growth over the last couple of quarters (3-Year CAGR of 72.2%). However, the company never posted any profitable quarter. Apparently, Pandora seems to have adapted a business model of winning its client than achieving attractive margins. This value proposition makes the company very risky from investment perspective. Given the current headwind, investors have become more suspicious if Pandora would turn profitable in the near-future.
- 40 hours of Free Listening - Pandora had previously imposed a 40-hour monthly cap on listening. After reaching the cap, listeners had to pay $1 to continue listening. But the trial during second quarter this year of ‘40 hours of limited free listening’ didn't go very well. Eventually, Pandora removed the 40-hour limit on Sep 1, 2013. This shows that the consumers are not willing to pay for Pandora’s services.
- Fixed Expenses – Since the operating leverage of the company is low and negative at -0.74, generating more sales would result in higher losses. In addition, it is also important to note that Pandora wouldn't’t be able to scale down its operations all of a sudden. Pandora’s increasing spend in Selling, General and Administration expenses (SG&A) is almost in proportion with its increase in revenues. Please refer to our article outlining Pandora’s profitability issues.
- Content Acquisition Costs – Yet another major expense for companies like Pandora is that of content-acquisition costs. When the company witnesses declining advertising revenue without an increase in subscription revenue; it is going to hamper the ‘sustainable growth’ of the company. Over the past few quarters, Pandora’s listening hours have been climbing and so is the variable royalty costs, but advertising revenue is not increasing proportionately.
- Other Metrics - Pandora reported increases in all the metrics it actively tracks. Listener hours at 1.35 billion hours saw a Y/Y increase of 16% over august 2012 and the company also saw 6.38% increase in its market share of the total US radio market. The biggest jump was in terms of active listeners which saw a 28% Y/Y increase to hit 72.1 million. While the numbers definitely look encouraging one important metric which we believe the company should actively track is its revenue per active listener, which stood at $.74 for the quarter ended July 2013 growing over 21% on a Q/Q basis. Please refer to our article on Pandora’s average revenue per user.
In summary, unless Pandora finds a way to make much more money from its existing users, we find the stock unattractive in the near future
To see Pandora’s latest stock price movement, click here (NYSE: P)