- Pandora reported Q2 2014 results, beating EPS and revenue expectations but also presented another quarter of operating and net losses.
- The company tries to increase its falling advertising revenues as well as pushing its subscriptions revenues further in order to improve bottom line.
- In order to increase subscriptions revenue Pandora may need to retire or wind down the core music service that is based on the music genome project.
At the end of July, internet radio provider Pandora (NYSE:P) reported its Q2 2014 financial results , beating EPS and revenues expectations. Pandora reported a record high quarterly revenue of $218 million, which is a 13% increase compared to Q1 2014 and a 43% increase compared to Q2 2013. Revenue increase was driven by increase in ad sales, as advertisement revenue continued to grow and reached a peak of $177 million while revenues from subscriptions and other initiatives are down 23% compared to the previous quarter and reached a level of $41 million.
As Pandora struggles with bottom line losses and intense competitive landscape, the company acts on two fronts in order to keep its leading position on internet radio and win the overall radio market:
- Scale Pandora to every device and generate revenue from every radio consumption use case.
- Increase local advertisement sales across the US with regional sales offices in 37 local markets.
As shown in chart 1, most of Pandora’s listening hours originate from mobile devices and tablets. The ease of use of mobile devices and the fact that we carry them with us everywhere we go make them preferred devices to consume radio and listen to favorite music on the go through Pandora. When Pandora users arrive at their homes or offices, they can tune in to the Pandora web service, which still holds 18% of the total listening time. However, web and mobile do not cover all the uses for radio.
According to the Radio Advertising Bureau, 60% of adults over 18 in the US listen to radio mostly in their cars. In order to penetrate this market segment, Pandora initiated partnerships with automakers and vehicle entertainment system manufacturers. This move has the potential to increase revenues. Pandora has been integrated into more than 135 vehicle models and 270 automotive aftermarket devices. During Pandora's earnings call last week, Chief Executive Officer Brian McAndrews mentioned that over 7,000,000 users have activated Pandora in their cars, which is more than twice the number of auto activations a year ago. In order to monetize auto activations and attract more listeners and advertisers, the company is considering integrating broadcast radio similar to Sirius XM (NASDAQ:SIRI) .
Pandora Chief Financial Officer Michael Herring said in an interview with Bloomberg News that music is an important part of the radio experience in the car, as are sports, news and talk. He mentioned Sirius XM as a role model for the monetization of radio consumption in cars. However, the Sirius XM business model is different from Pandora's and is more subscription-focused. In Q2 2014, Sirius XM subscriptions accounted for more than 87% of revenues, compared to Pandora’s 19%. Advertising accounted for 0.25% of Sirius XM Q2 2014 revenues compared to 81% of Pandora’s revenues.
As shown in chart 2 below, advertisement revenues declined for a few quarters while the Pandora one subscription revenues increased. Shifting from an advertisement-based model to a subscription-based model that is similar to Sirius XM’s model could accelerate the natural shift that already started between the two revenue streams.
This shift may seem logical in light of the recent financial results and the company’s penetration into the automotive market. However, it may have some drastic implications on the music genome project that stands as the basis of Pandora’s business. The music genome project is an attempt to use musicologists’ analysis in order to recognize and respond to each customer’s taste in music. Integrating sports, news, and talk content into Pandora can make the music genome project that was Pandora’s differentiator become useless.
Streaming services such as iTunes radio, Songza, and Spotify offer a decent alternative to Pandora’s service. As Pandora struggles to remain a relevant player, it needs to make a drastic change to its business. Offering sports, news, and talk on top of the music service could be the beginning of Pandora’s path to profitability.
Pandora Q2 2014 financials continued the trend of the last few quarters of increased revenues and increased losses for the internet radio service. The music genome project which is at the heart of Pandora's business becomes a burden as the company cannot make it profitable. As new similar streaming services arise, it may be a good time to integrate broadcast content into Pandora and accelerate the shift towards a subscriber based business model. Pandora with a 78% market share however, cannot drive enough advertisements to make it profitable. In order to boost revenues Pandora should penetrate the automotive market, offer broadcast content in order to gain substantial market share there and shift these users to paid subscribers. As the change is yet to begin, and the company has not declared any official news on that front Pandora, is neither a buy nor sell.
Amigobulls has a hold rating on Pandora stock. View Pandora stock analysis.