Ever since its IPO, Pandora Media’s (NYSE:P) stock has had a roller coaster ride and currently stands significantly below its IPO price. Needless to say, the biggest concern among investors is the company’s business model that casts doubt around its profitability potential. As an investor, you should be aware of the key business trends that will drive Pandora’s future and any change in which, can notably impact the company’s profitability and growth. Below we provide a comprehensive view of several key trends that are impacting Pandora’s revenues as well as costs.
Growing Smartphone & Tablet Market
According to Gartner’s estimates, about 172 million smartphones were sold in 2009. This was an increase of 24% from 2008 numbers. The fast paced growth accelerated in 2011, when Gartner reported that Q3 2011 smartphone sales amounted to 115 million units, registering a growth of 42% over Q3 of 2010. For the full year 2011, the total smartphone sales stood at more than 430 million units.
We expect the smartphone market to grow at a healthy pace. Pandora’s music app which is available for the iPhone, Blackberry, Android, Windows Mobile and Palm is one of the most popular apps. As the smartphone market grows, Pandora will expand its mobile subscriber base. Furthermore, the growth in tablets, especially Apple’s (NASDAQ:AAPL) iPad has been phenomenal. This further provides a viable medium for Pandora to expand.
Shift Of Advertisement To Mobile
Although the advertising spend is still not much focused on mobile platform, the growth exists. The mobile ad spending in the U.S. is expected to grow from $1.45 billion in 2011 to close $10.8 billion by 2016. Pandora will leverage this growth to increase its ad pricing to combat soaring costs. Pandora’s broad reach with over 150 million registered users and over 50 million active users as well as large amount customer data will help advertisers in better targeting customers.
Most of Pandora’s growth is coming from mobile devices and if the monetization levels don’t improve soon, the company could continue to face losses.
Pandora Targeting Automobile Segment
In January 2010, Pandora joined hands with Pioneer, an electronics manufacturer to provide internet radio in cars. Companies like General Motors, Hyundai and Toyota have announced plans to launch vehicles with new systems that will stream online radio from Pandora. Pandora has also developed relationships with major automobile manufacturers, including Ford Motor Company, Mercedes-Benz and MINI (BMW Group), and with suppliers of major automobile manufacturers, to integrate the Pandora service into current and future automotive sound systems. This is going to be a major avenue of growth given that almost half of the radio listening happens in automobiles.
However things are a little different here. So far Pandora has ridden the wave of internet and mobile platform adoption where other radio services were not significantly present. However, the automobile market is already dominated by terrestrial and satellite radio companies and it is not going to be a smooth ride for Pandora.
Competition And Royalty Rates Rising
With Clear Channel Radio having launched iHeartRadio service that directly challenges Pandora’s unique ability to serve personalized music, and with Spotify’s having entered the U.S. market via Facebook, competition has notably risen for Pandora Media. This could potentially impact future growth for the company. Furthermore, Pandora pays royalties according to the rates negotiated with SoundExchange. However, the issue that the company faces is that the royalty rates are set to increase every year till 2015 after which a new schedule will be negotiated. Rising royalty rates are putting great pressure on Pandora’s ability to be profitable.
Our price estimate for Pandora Media stangnds at $7.90, implying a discount of about 30% to the market price.