Pandora Vs. Sirius XM: Is It Game On Again?

| About: Pandora Media (P)

I wasn't too excited about Pandora's (NYSE:P) earnings press release even though the shares spiked up after hours more than 13%. The market overreacted as it is known to do. The stock jumped to a new 52-week high of $19.37, which was incredible. But then cooler heads prevailed.

Just as with the swift rise, there was a brisk fall. The stock dropped 15% on fears of Pandora's profitability. Here again, this was an overreaction. While I'm still bearish on Pandora's ability to monetize its business, I was nonetheless impressed by the tremendous progress the company is making. After taking some time to sift through the company's 8K, there was evidence of strong execution.

Giving credit where credit is due

In a recent article, where I compared Pandora to rival Sirius XM (NASDAQ:SIRI), I loathed the company for its decision to put a 40-hour cap on free listening. In that article, I said:

"The problem, Pandora remains too dependent on content, much of which has proven too costly. The perfect example was when the company mentioned on its blog that it was installing a 40-hour monthly limit on anyone listening for free listening via a mobile device. The company said that listeners who exceed that 40-hour limit will be given the options to listen on a personal computer, pay a fee of 99 cents for the remainder of the month, or signup for the ad-free subscription service."

My argument pointed to the fact that only less than 4% of the company's listeners were going to be affected by this move. While this decision might have had some merit from an operational standpoint, I also felt it signaled a weakness in Pandora's business model, especially since only 1% of the company's listeners were actually paying for the service. Well, things changed.

I feel that I need to give Pandora some credit here. Because it looks as if it was precisely the decision to put a 40-hour cap on free mobile listening that has propelled the company's strong jump in paying subscribers, bringing its total to 2.5 million. The Street is applauding this improvement, as it should.

Understanding the performance

Analysts are now saying that not only does Pandora now have a better chance of surviving Google (NASDAQ:GOOG) and Apple's (NASDAQ:AAPL) entry into the realm of music streaming, but Pandora is now a legitimate threat (again) to Sirius XM. Well, not so fast. We've been down this road before. When Pandora was more of a novelty, everyone and their mother were claiming that Pandora was going to be the "death knell" to Sirius.

However, each year since, Sirius has soared in every significant category from subscriber growth, free-cash flow, market share, and more importantly, its stock price. Besides, while Pandora's 2.5 million paying subscribers is impressive, it still pales in comparison to Sirius' 20 million self-pay subscribers. So let's keep things in perspective.

Nevertheless, I was impressed with the Pandora's overall earnings performance. The company beat the Street in pretty much every measurable standard. Although the company's net loss grew 41% year over year, when excluding items, the results were in-line with estimates. This is while revenue soared 55% to $126 million.

No longer a speculative bet

What really impressed me, though, was that revenue from mobile devices nearly doubled to $84 million. This is while mobile listening hours surged up 47% and total overall listening hours grew 35% in the quarter to 4.18 billion. In that regard, I've spoken endlessly about Pandora's royalty expenses, which is the company's biggest inhibitor of profits as the company spends about $20 per user on royalties.

However, with the 34% jump in RPM to $25.31, which is the metric that tracks Pandora's revenue per listening hours, it means that Pandora's RPM is now above the $20 it pays in royalties. Last year this figure was at $18.86. Here's why this is important; essentially, for all of the talk about Pandora's perceived disadvantage due to the fact that it attracts "free-loaders", the company is demonstrating that it can monetize that traffic.

Equally impressive, is the fact that revenue per thousand listener hours on mobile devices grew 34%, while total revenue per thousand listener hours including computers arrived at $30.01, up 15% year over year. All of this indicates that Pandora's ability to turn a profit is just around the corner. And the company is no longer a speculative play.

Bottom line

As impressive as this quarter was for Pandora, I don't believe that the company is any more of a threat to Sirius XM than it was two quarters ago or even last year. Sirius XM is profitable and has 25 million subscribers while Pandora's business is still heavily predicated on advertising revenue. It's worth noting here, though, that Pandora's 2.5 million paying subscribers now represents 16% of the company's revenue, up from 1%. This is no small accomplishment.

If the company can continue to grow that side of the business to (say) 20% to 25% while also moving towards profitability, then I'll entertain the idea that Sirius should keep an eye on this progress. For now, that's not the case. I do see shares of Pandora as being fairly valued today with possible upside towards $18 to $20 over the next couple of quarters.

Disclosure: I am long AAPL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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Tagged: Earnings
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