For Pandora (P), the Next Growth Point is Up in the Air

Meng Meng  |

Pandora’s revenue surge in the first-quarter has not convinced investors of digital streaming’s bright future.

The online radio station posted a 69 percent sales’ increase to $194.3 million while subscriptions rose 8 percent to 75 million from 69 million a year ago. Net loss narrowed to $0.14 per share this quarter from $0.22 a year earlier.

Pandora’s CFO told Bloomberg that the company is “investing aggressively in the front half,” to hold on to its market share. The California-based company doubled its marketing expenses this quarter, adding to evidence that it’s struggling in a new era of music distribution where profits are stretched thin.

Stock tumbled 16.6 percent to close at $23.51 in New York on Friday as Wall Street weighed the worse-than-expected guidance for the second quarter.

In the vanguard of music streaming, Pandora popularized the idea of listening to unlimited music over the Internet instead of holding a collection of cassettes, CDs, or mp3s. Its success stemmed mostly from “the Genome Project,” where professionally trained musicologists curated songs based on 450 musical traits and formed an algorithm to express this.

The company, however, might have placed too much power with the professionals and ignored what people really want.Pandora lost 1 million active users this quarter as listeners migrated to on-demand musicstreaming. Despite a solid lead over competitors, Pandora faces challenges from Spotify, which offers freeon-demand songs across all platforms. Compared with 78 million active users on Pandora, Spotify grabs a smaller market share - reporting 20 million paid subscribers last year. Most of the Spotify users also have Pandoraaccounts, promoting Spotify to convert more Pandora fans to its service.

Spotify launched free-on demand mobile streaming earlier this year, an aggressive move that many analysts say could crash other music players. As Spotify gears toward faster growth, Pandora defends its business model of “helping users discover new music”

This quarter’s earnings numbers highlighted another threat to the online radio giant - advertising income from mobile, which has been fueling the company’s growth in the past five years, was flat for the first time in more than 12 months. Meanwhile, desktop contributed even less to total profits.

The RMP, a key profit measurement that means income per 1,000 listener-hours, was $29.46 for the mobile unit, little changed from the $30.93 of the fourth quarter of 2013. Desktop RMP reduced to $52.7 from $61.92 three months earlier.

When Tim Westergren founded the company 20 years ago, the jazz musician turned film composer made 483 failed pitches to venture capitalists, selling his idea that could revolutionize the music industry by handpicking best tunes for every one. No one was interested in yet another music website during the Internet bubble and Westergren’s team worked two years without salaries until the company’s mobile app found an angel investor.

In nearly every speech given by Westergren, he talked about “innovations.” But the fact is his company had not came up with anything new since the Genome project.

Pandora plans to launch a platform this year that will enable recording artists to manage their archives, interact with fans, and sell concert tickets.

For more than 120,000 musicians on Pandora, the new marketplace will “create a rising tide that lifts all boats,” Westergren told Australian newspaper the Age.

Pandora’s tug-of-war with songwriters and the powerful royalty company The American Society of Composers, Authors and Publishers (ASCAP) goes back to when Pandora was founded. It also faced criticism of shortening musician’s income by paying only a few hundred dollars for songs played thousands of times. 

Apart from royalties collected by ASCAP, internet radio services like Pandora are also required to pay separate royalties to record label and then performers, the single biggest cost for the company. Royalties amount to roughly half of its revenue, with only 3 to 4 percent going to ASCAP.

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Pandora claimed that the high fees charged by ASCAP had hurt its bottom line and put itself at a disadvantage to broadcast radioLast month, Pandora brought the case to court, arguing that the Internet radio should pay same amount of royalties as traditional stations, which is 1.7% percent of gross revenue. The court holds the existing rate - 1.85 percent - for Pandora.

Investors have looked at streaming services as the last resort to arrest a decline in music industry. While record labels slipped 4 percent last year, Internet music players are unlocking new markets such as Brazil and reviving the previous slumping Italy market with sophisticated selection of songs.

Royalties might bite deeper into this year’s revenue, the company said in a statement. Analysts on average predicted a 38 percent revenue growth this year and 30 percent next years after Pandora’s 2013 revenue more than doubled.

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