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Pandora Media, Inc. (NYSE:P)

Credit Suisse 2013 Technology Conference Call

December 4, 2013 11:00 AM ET

Executives

Mike Herring – CFO

Analysts

Stephen Ju – Credit Suisse

Stephen Ju – Credit Suisse

All right. Great. So, my name is Stephen Ju, I’m the Internet Equity Research Analyst here at Credit Suisse. I’m joining on the stage by Mike Herring, CFO of Pandora. Welcome Mike.

Mike Herring

Thanks for having me.

Stephen Ju – Credit Suisse

Thank you for joining us. All right. So, let’s just take a ride off here. So, from Apple to Google you’ve seen a number of new entrants into the streaming digital radio space. And Pandora has been able to flourish despite the new competition. So, what is your assessment of the competitive landscape at this point?

Mike Herring

Well, nine years Pandora has been in the market, we’ve seen many, many competitors large and small enter it and exit it frankly. This year we saw Google and Twitter and of course Apple all start to launch their streaming efforts in this space. And I think it’s an acknowledgment of where the real opportunity is and in particular as mobile connections become just to be bigger and how we consume content and music is such a natural place for that. Everyone is trying to figure out how that fits into their strategy. Pandora has had a single-minded strategy around proving a high quality musical singing experience since its inception and continues to work on that as its mission solely, we’re here to provide a high quality music, radio listening experience and that’s allowed to flourish despite competition whereas in small and even with the most recent launch of iTunes Radio and we just launched -- announced metrics this morning if you missed it. Where our hours on market share at one are at near a record highs market share now is 8.44% of radio listening, users increased to 72.4 million in November showing resilience of our product and our brand and really the royalty of the listening public.

Stephen Ju – Credit Suisse

Got you. So, I’m always at the mindset that the consumer engagement data is a significant competitive asset and how significant is out of thumbs up and thumbs down data that you gathered over the years and where do you think you are in terms of using that asset to deliver your superior consumer experience.

Mike Herring

Yes. So, engagement has been critical to not just the effectiveness of our business but also the effectiveness of our product from the beginning. You mentioned that thumbs are now above over 35 billion thumbs since inception, that doesn’t – that’s not just a measure of people interacting with our products, it’s also an important source of data that we used to improve the product, it’s a proprietary data source that just keeps getting bigger, just keeps getting more valuable and helping us to deliver the right song play list as you’re listening to music. So, that I think is what makes that piece so critical.

And then you turn that around to how it helps us operate our business and where we have been able to drive very strong monetization progress this year to a large extent because we’re leveraging the engagement we have with our users to provide high quality advertising experiences that provide ROI back to the advertisers. They’re seeing that returns and that’s where they track the dollars to the Pandora platform. So, engagement is a win-win it’s a win for the company because we’re able to provide a much higher listening experience and it’s a win for the advertisers because we’re able to provide much more targeted and relevant advertising.

Stephen Ju – Credit Suisse

Got it. So, speaking of the advertisers, what effect can do something on Nielsen and Arbitron accreditation have on Pandora’s effectiveness as a platform for advertisers that currently advertise wholly on terrestrial radio. And is the absence -- was the absence of this historically been a friction point against more dollars before in the past.

Mike Herring

Yes. Since our entry into driving radio advertising dollars to Pandora and away from broadcast radio has got a lot of friction points I mean that is a major disruption in one of the last kind of large advertising market that haven’t been touched by digital and that’s changing rapidly but you mentioned the accreditation that’s really when the Triton data we’re waiting that’s pending right now that’s the data that’s currently measuring Pandora and that’s been an fantastic partnership. With Triton and that’s the data that gets integrated into the buying platforms that’s starting to move those dollars over.

There is multiple things that we’ve done over the last year and a half primarily in order to start accessing those budgets. So, we’ve been growing up on backs of the digital advertising budgets and that’s been very successful and it continues to be an important part of our advertising strategy but the other side of it is accessing these radio budgets. And getting our data certified inside Triton, getting that data then put in the right format so that it can be incorporated into the Mediaocean and Strata buying platforms that broadcast buyers as oppose to the digital buyers the broadcast buyers within agencies use to place media buyers drive RFPs et cetera. That takes a lot of the friction out, we’re no longer asking them to carve out budgets separately from their normal process, it’s now part of their normal work process.

And that friction reduction is a still a major objective as we move through time. You mentioned Arbitron, they currently don’t measure streaming services like Pandora, now that they’ve been acquired by Nielsen, conversations were ongoing, we’re optimistic that they’ll embrace to future is to allowing us to be measured alongside broadcast radio, that’s what we’ve always wanted, our release of monthly metrics are really about trying to put a stake in the ground about how we’re measured, how we stand up next to the competitors we have in the market for advertising dollars for those budgets. We’d love to have that measure, we put side by side within the Arbitron system.

Stephen Ju – Credit Suisse

Got you. So, at this point I like to open it up to the floor for questions. But while we’re pulling I allow another one here. So, do you have any plans in the future to alter the way advertising is sold on Pandora, it seems like currently the process is very in a relationship driven in personnel have you whereas in some of the other digital mediums that we’re seeing where single process get more automated. So…

Mike Herring

Yes.

Stephen Ju – Credit Suisse

What are your – so I mean where just less people in the value chain. So, what are you sort of visions for the future on that could?

Mike Herring

So, you really have to think about it in two buckets. So, the audio side of the business or the broadcast side where the $15 billion in radio is really a consultative sale your hand pitching buyers on the value of your audience, I don’t see that becoming an automated platform soon, there aren’t – we hear a lot about programmatic in RTB buying and such that all on the digital side of things. And Pandora is going to be right alongside the leaders in that space in developing capabilities there. But on the audio side that’s always going to be a feet on the street, you are out pitching agencies it’s why we put people in 29 local markets last year to really pitch local radio advertisers.

On the digital side, because we’re a logged in publisher of true scale and there are handful of these publishers in the mobile world. These logged in publishers know a lot about our customers, we know lot of demographic data, we know a lot of activity data, we know their entire history in a lot of cases and we can create very interesting targeting segments that allow us to drives advertiser ROI on the benefit back to us and entire CPM, higher sell-through rates. And that fits very well into these programmatic in RTB buying platforms where you create these segments and you can put them into these systems to be bid on real-time so that you optimize each segment to a clearing price, that’s the future and it’s the – it’s the logged in systems like Twitter and Facebook and Pandora that are really going to benefit from that migration.

Stephen Ju – Credit Suisse

So, switching back to further question regarding that.

Question-and-Answer Session

Unidentified Analyst

Hi.

Mike Herring

Good morning.

Unidentified Analyst

Just a question on subscriber growth and…

Mike Herring

Yes.

Unidentified Analyst

How you look at penetration and what’s your international strategy with respect to that especially given some of the license restrictions in international markets. Thanks.

Mike Herring

Yes. So, subscriber got to 3.18 million subscribers at the end of the last quarter, it’s a great business it’s 20% of revenue. But at Pandora we fundamentally believe the big opportunity is not the 20% of people in the United States that are willing to pay for music and there is a lot of streaming services that are fighting to get a piece of that market. We have a piece of it as a – as an adjuncts to our free business people who want to listen to the Pandora’s radio experience without ads that’s the primary benefit of subscribing. And there are three plus million people over 1.3 million now that just signed up in the last 12 months that have chosen that pathways they want the Pandora experience so they want it ad-free.

We also in 67 – 69 million people that have grown up believing that music listening should be a free experience and they’re willing to listen to advertising associated with that. We think that’s a much bigger addressable market and that’s why we focus so much time on that. The subscription business will always be an important part of our business but not the main growth driver long term.

As far as international, another growth subscriber long term, Australia and New Zealand is in the user growth pace right now that’s been going very well. And it’s also a laboratory for showing how Pandora can expand internationally and work in a productive manner with the licensing bodies that provide our ability to stream music, that is the big barrier. There are other barriers specific content or language barriers but the biggest barrier is the legal ones and we are working on trying to knock down those barriers. I think there are many ways of doing that, every country is different that’s why it’s so complex. And radio specifically have its own challenges versus the streaming services that’s why they like the Spotify for example. It’s an international business, lots of countries their radio product is only an U.S. only product because that’s a very difficult thing to take internationally. So, we will solve that eventually but we still think that the immediate opportunity is in the United States.

Unidentified Analyst

What are the limiting factors where RPM can ultimately go in a long run and is there any kind of a ceiling on RPM for Pandora?

Mike Herring

That’s a really hard question to answer. RPM today across our entire service is $43, $40 on the mobile side which is 80% listening and about $57 on the desktop side which is 20% of listening in terms of hours. That’s where we are today with cost content cost of about $20 to $21. We’re able to get gross margins that give us a really good business. So, already we’re at a point where we feel good about that RPM and we continue to grow that, that’s been our priority this year, it’s been our focus as a management team is to drive monetization and drive that leverage and gross margins.

Terrestrial radio operates at $73, so the lot of people say well is 73 where you’re trying to get to. I think that’s a milestone maybe but that’s not really an objective, you got to keep in mind they get there through 16 minutes of ads and the seller rating cost per point because that’s their only there is only one revenue stream because we have that subscription business and we have the digital advertising and the video advertising that we can do. At $43 we’re over a half way to the $73 within a maximum of three minutes an ad a three minutes an hour of advertising.

So, I don’t think $73 is any kind of ceiling I think that’s just a marker of relevance to give you some perspective. We certainly have programs today that are driven by targeting and driven by the engagement metrics that we can offer advertisers where RPMs run well north of the $100 in those programs. So, there is lots of opportunity to drive where that ceiling is don’t know, our focus is to get that maintain that leverage from the gross margin perspective so that we can balance the growth in users the listener experience making sure that stays high quality, we don’t destroy it through monetization efforts but we still monetize a way that drives bottom-line improvements, both of those things have to go end to end.

Unidentified Analyst

Hi. Have you mentioned how much of your revenue is from audio only?

Mike Herring

So, it’s about 60% is audio and 40% is digital. When you think about delivery mechanism that doesn’t mean that 60% is from radio buyers actually a lot of digital buyers, traditional digital buyers are buying their audio ad unit on Pandora as because of its effectiveness. So, the broadcast buying portion of our advertising is still the minority and it’s growing that’s the fastest growing piece, the radio advertising that we’re attracting, but still about 60% is audio advertising itself.

Stephen Ju – Credit Suisse

I know some of you have wish we would listening to Van Morrison rather than me, I’m sure.

Unidentified Analyst

Two questions. First one is related to your content negotiation. And I’m – couple of things have changed over the last recent, so I just wonder if you got and you see. Secondly is that Apple has done it to you. And I’m interested if you kind of – if you were to put a scale of 1 to 10 12 months ago versus today in terms of the openness of the other side to a deal fully outside of Arbitron how do you handicap that?

Mike Herring

Well, I think 12 months ago was the absolute hit of relationships probably it was before I joined Pandora, I joined on February 1st. But I was following the sort of the IRFA debates that occurred in Washington in the fall and which is the Internet Radio Fairness Act. And withdrawals of the publishers on the publishing side and a lot of things were happening. Since then a couple of things have happened one is Pandora has monetized very effectively over the last 10 months. And so have other streaming services but Pandora in specifically and we are writing some pretty big checks back to the content owners. And I think there is a sentiment that and slowly occurring that we will be able to – we will be a meaningful source of real revenue for the long-term instead of a short-term problem that’s reducing album sales or downloads or something. I think that realization that what the future looks like is slowly coming to the content owners.

We have positive conversations and always have. The irony is, we actually work very closely with the labels for example on Pandora Premieres and the concerts we do and a lot of other pieces of our business where we have very friendly and cajole and symbiotic relationships and then there is the content life and thing piece where we have been asking for fair rates and finding ways to get that and so far have been living with rates that are we think pretty high relative to our competitors very high relative to some competitors. But at least, we can still have -- because our business is so much better, we still can be from a monetization perspective we still can be profitable on that.

The CRB process, which is Copyright Royalty Board started real and earnest in January of a two year process where decisions made in December 2015. We have a seated table there and we will see where that comes out. But, you mentioned Apple doing deals there is a lot, Clear Channel has done some direct licensing deals now that there is lots of data points flooding out that. I think we will end up with that rates that are going to make innovation difficult. You know, small companies are going to really struggle to grow because you have to monetize immediately. That’s why it was so difficult for Pandora to get to where it is today. But, large businesses like Apple, like Pandora that have monetization in place will be able to thrive for quite some time.

Stephen Ju – Credit Suisse

Good. My question was in the advertising sales evaluation –

Mike Herring

Yes.

Stephen Ju – Credit Suisse

You got your direct sales and I got to understand that but could you explain where the agencies fit into this and what progress are you making with the agencies in terms of being able to actually become a part of – a more important part of their ecosystem in the same way as some of the social advertising has really started to break through?

Mike Herring

So are you talking about on the digital side then so because yes, we work very closely with agencies both in the audio broadcast and on digital side of the business. So these agencies are still very critical in the broadcast side. They are the gateway to much of the radio advertising dollars.

On the digital side, we still work very closely a lot of budgets, we manage there. There is a big portion that we consider direct premium. However, what you want to call it that goes either direct to the client or through agencies. But, an increasingly larger piece that’s going through our exchanges that agencies are sometimes participating in and sometimes direct with the client who can work directly into these exchanges and take some of the friction out of the process.

But, I think some of our most important partners that have gotten us this far have been agencies because they are about educating the market as much as facilitating the transaction. So they – if they have a positive experience with ROI with one client and they have got six other clients with similar objectives from a campaign planning perspective, Pandora becomes part of that extension. And that’s why all these efforts to be involved in the buying platforms that these agencies use are so important because once we being to sort of get that foot in the door then we can land and expand into other accounts.

Stephen Ju – Credit Suisse

Okay. Traditionally, in your – the advertising that you saw on the audio side, its 15s and 30s and first the traditional and terrestrial radio format of 60 seconds. So how much of a source of friction has that been for you because whenever you told advertisers, hey, you have to give this new format, you have to kind of do some foot dragging. So where are you in those conversation, is there more widespread [indiscernible]?

Mike Herring

All the points of friction that we have that’s probably not in the top 10. We – advertisers almost always don’t repurpose traditional broadcast type radio advertisings and do specific Pandora audio advertisings. With calls to action to Pandora listeners and are related to certain events on Pandora. And so, and we have a whole production environment and we use a lot of independent contractors to do that very efficiently, inexpensively and so that that friction really doesn’t exist.

I think we have a lot of internal studies that we share with advertisers and agencies that show that 15s and 30s actually are more effective than longer formats in terms of brand recall, in terms of calls to action, especially when you pair it, you say it was 30 seconds or 15 seconds but also as a digital call to action and leave behind where you can have direct interactions with the consumer that something that is brand new and has much better effect. So in ROI back to the advertisers, so that really – I have almost never heard that has a problem.

Stephen Ju – Credit Suisse

Understood. Okay. And I think with that we are out of time. Thanks very much Mike.

Mike Herring

Thanks for your time.

Stephen Ju – Credit Suisse

Okay. Bye.

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