Pandora Earnings Preview: Improving Monetization Will Be Countered By Soaring Expenses

-2.14%
Downside
8.38
Market
8.20
Trefis
P: Pandora Media logo
P
Pandora Media

Internet radio company  Pandora Media (NYSE:P) is scheduled to release its Q3 2015 earnings on October 22nd and we are expecting a significant increase in the company’s net sales on account of a steady rise in its mobile and desktop ad monetization, primarily driven by local ad revenues. However, the strong rise in net sales is likely to be countered by rapidly increasing sales and marketing expenses, and high content acquisition costs. The company’s net loss had increased 37% in Q2 2015, following a sizable 70% decline in the first quarter. Pandora has been investing heavily in its sales team to improve the direct sell-through of its mobile ad inventory, as well as make inroads into the local advertising market. Although this has helped the company improve its mobile monetization substantially, it has been accompanied with a disproportionate rise in expenses.

On the royalties side, although Pandora had said that it is well positioned to reduce its content acquisition costs relative to revenues in 2015, they still stand large at around 45% of total revenues. A marginal reduction in this ratio will not have any material impact on the Internet radio company’s losses. However, recent developments suggest that the rise in royalty rates in 2016, which was threatening the company’s long term sustainability, might not be as large  as expected. During the earnings call, we will keep an eye out for updates on the matter.

Our current price estimate for Pandora stands at $21.44, implying a premium of more than 15% to the current market price.

Relevant Articles
  1. Can Pandora End The Year On A Strong Note After Solid Q3?
  2. Is SiriusXM Paying The Right Price For Pandora?
  3. How Will Subscriber Growth Drive Pandora In The Second Half Of 2018?
  4. Can Subscriber Growth Drive Pandora’s Q2?
  5. Spotify Has Seen A Big Rally, But Still Faces Some Challenges
  6. How Much Can Pandora Benefit From Snapchat Partnership?

See our complete analysis for Pandora Media

Monetization Expected To Improve Further

Pandora’s ad RPM levels (revenue per 1,000 listener hours) are likely to be up compared to the third quarter of 2014. Also, there will be some sequential gain since advertisers tend to divert a disproportionate amount of their annual budgets to the fourth quarter, following relatively weaker investment in the first quarter, with gradual improvement in the subsequent quarters. In Q3 2014, Pandora’s overall RPM improved to $44.35 from $39.68 in the same quarter of the prior year. A similar trend was visible when comparing Q3 2013 and Q3 2012. The primary driver for the increase in ad RPM last year was ‘mobile and other connected devices’, ad RPM for which increased to $40.82 in Q3 2014 from $35.31 in Q3 2013. [1] Desktop ad RPM had also reported positive gains during the period, growing from $58.44 to $64.13. In Q3 this year, we expect ad RPM to be up notably, especially across ‘mobile and other connected devices’, given that Pandora has been very aggressive with the sales and marketing of its ad inventory. In fact, local ad revenues had increased 67% year over year in the prior quarter and we expect this strong growth momentum to have continued in Q3 2015.

Expenses Expected To Be Up

With royalty rates rising every year, the company is focusing on improving its ad targeting in order to command better pricing and sell more mobile inventory slots. For this purpose, Pandora has been growing its sales force for the past several quarters. Last year, sales and marketing expenses as percentage of revenues was around 30.1%, while it was 28.5% a year earlier. The net increase in selling and marketing expenses for the period was over 52%, which is mainly attributable to the addition of new quota bearing sales representatives and other employees in these areas. In Q2 2015, sales and marketing expenses increased 42%, much faster than growth in overall revenues, settling at 33% of net revenues.

We believe that Pandora likely continued to bolster its sales team in Q3 2015 as well, given that its local ad business is flourishing, which could only have pushed its sales and marketing expenses relative to revenues higher, negatively impacting operating income. In addition, commissions on subscriptions that the company pays Google (NASDAQ:GOOG) and Apple (NASDAQ:AAPL), and soaring product development costs, will also weigh on its margins.

View Interactive Institutional Research (Powered by Trefis):

Global Large CapU.S. Mid & Small CapEuropean Large & Mid CapMore Trefis Research

Notes:
  1. Pandora Reports Q3 2014 Financial Results, Pandora, Oct 23 2014 []