Did Apple Just Pull The Plug On Pandora's Jukebox?

| About: Pandora Media (P)

Apple (NASDAQ:AAPL) launched its new iOS 7 system on Sept. 18, 2013 along with iTunes Radio as a direct competitor to Pandora (NYSE:P). Bloomberg reported the plan is to launch iTunes Radio to Canada and the United Kingdom as well as Australia and New Zealand early next year; eventually targeting over 100 countries. Industry leader Pandora is already in the two latter countries and the USA, but has yet to launch anywhere else. Over 11 million people sampled the new iTunes Radio in the first five days, suggesting a serious cut into Pandora's business.

This is a huge problem for Pandora who had at last count 72.7 million monthly users. The last thing Pandora needs is competition blazing ahead of it. In Pandora's Sept. 24, 2013 presentation, it confessed, "The sad thing about internet radio is it hasn't been a healthy sector. It's been notable for its lack of competition and that is essentially driven by rates. In order to make the economics work at the rates that internet radio pays, you have to be able to access local advertising dollars. To do that, you need to be immense scale and that's hard to do in the first place, but it's doubly hard now with Pandora sitting there." And now Apple is sitting there. That makes it "triply hard" now on Pandora."

"Immense scale"

Apple being the first to go into two English-speaking countries ahead of Pandora and targeting over 100 countries in total certainly would fit that definition of "immense scale." If there's any doubt left of just how big of a scale Apple is going for, consider that Apple is planning to take it a step further with its "iOS in the car" capability. Sirius XM Radio (NASDAQ:SIRI) is a large potential market to expand into as it has estimated sales of $3.8 billion for 2013 compared to just $643 million for Pandora.

There are over 25 million Sirius subscribers and over 50 million Sirius radios installed in vehicles on the road, plus millions more cars that access the old fashioned "free radio." Apple's iOS in the car will be essentially offering free premium radio. This expansion will further help Apple achieve immense scale. CEO Jim Meyer of Sirius stated on Sept. 26, 2013, "Apple Radio for instance, today has no broadcast strategy." At least, none that Apple has revealed to you personally yet, Jim. I wouldn't be so dismissive.

Unlike Pandora and Sirius, Apple isn't just all about radio. Apple has an entire host of complementary products. This means it doesn't necessarily even need its internet radio to be directly profitable. Even if Apple loses a few bucks from users accessing its iTunes Radio, it may make up for it by selling more iPhones and other devices for access in the first place.

According to Tim Westergren, Founder of Pandora, around 50% of Pandora users actually use an iOS device to access its network. Those users will naturally be difficult to retain. Why use a third party for internet music when you can get it directly through your device provider? Expect the content to be larger and better over time from Apple. In Pandora's most recent earnings conference call CEO Joe Kennedy confessed, "Apple content cost is probably somewhat below what our current content cost is."

Pandora is beginning to show signs of another problem. While its listener hours and number of listeners per month has gone steadily up, its average hours per user has been declining. Watch this key metric. It will tell you if the average user is migrating elsewhere. To calculate this, simply take the total number of listener hours and divide it by the number of users. For June, July, and August of 2013, that average amount of hours per user has declined 11%, 18%, and 9% respectively versus the corresponding year-ago period.

Pandora may be in trouble if Apple's iTunes Radio continues to catch on. Apple is already forging ahead into countries where Pandora has no presence, expanding its economies of scale. By Pandora's own admission, its sector was not healthy even before Apple entered the picture. If the number of listeners or the number of hours per listener has a much more severe drop than usual in October (full month after iTunes Radio is launched), then Pandora may have just had its plug pulled. Watch for the October statistics to be released by Pandora first week of November.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.