Apple has dropped the first domino.
I expect this crowded audio/entertainment market to continue to consolidate.
With Sirius and Pandora being the highest-profiled names, they stand the most to gain and the most to lose.
Investors were stunned to hear big news on Thursday that Apple (NASDAQ:AAPL) is in talks to buy Beats Electronics for $3.2 billion. This would be Apple's largest deal ever, given Apple has a track record of having made only small acquisitions.
FT says that the deal is expected to be announced as early as next week. This is even though neither company has confirmed discussions have taken place. Even so, this announcement has sent ripple effects throughout the tech industry. Analysts are now speculating on what this deal might mean for music/entertainment assets like Sirius XM (NASDAQ:SIRI) and Pandora (NYSE:P).
Recall, last week I discussed the possibilities of Sirius being an acquisition target for Apple. This is because I believed Apple was in need of something to further its push into the realm of music streaming. Over the past several years, Sirius has capitalized on the growing demand for premium audio. Pandora, while growing in popularity, has not shown that it can make money. Sirius, on the other hand, has used its subscription model to produce strong cash flows.
But Sirius, which seems stuck in the auto (pun intended), continues to face significant competitive pressure from (among others) Pandora and Spotify, and until recently, Beats. But Apple has gone in another direction. At $3.2 billion, Beats is roughly one-sixth the market cap of Sirius, which commands a value of $19 billion.
But Apple could have scooped up Pandora, which has been in a free-fall for the past month. Pandora, which is the market leader for the listener audience at close to 8%, has a market cap of just $4.5 billion. But there's a problem. Pandora is a freeloaders' platform.
Despite Pandora having showed tremendous growth over the past couple of years, Apple, which cares about its incredible margins, has no interest in giving anything away for free. Apple has been looking for a way to leverage its iTunes Radio platform, while at the same time, offset its declining iTunes revenue. There are many who will rush in with opinions on what this means for Apple. But the more pressing question is where does this leave Sirius XM and Pandora.
From my vantage point, Pandora is effectively dead. There is no resurrection as a stand-alone company. On the other hand, it does show that there is a growing interest/demand for the services that Pandora brings. Even though its management has not been able to effectively monetize that service. I think it opens the possibilities that a company like Microsoft (NASDAQ:MSFT) or even Facebook (NASDAQ:FB) will now go after Pandora to keep up with Apple in the realm of music streaming.
Of course, there is Google (GOOG, GOOGL), which does not want to be left out. Don't forget, Google has its "All Access" service, which it launched last year, presumably to compete with Pandora and Spotify. At the time, Google was said to be "smart" in its introductory pricing structure. But we haven't heard about it since. By all accounts, All Access has been a failure.
With Beats in hand, Apple has the means to quickly monetize the service and squeeze out Pandora, especially since Apple already gives record labels 70 cents out of every dollar it collects on iTunes. Apple has the resources and the platform to put Pandora out of business.
For Sirius, which has over 25 million subscribers and well over 20 million paying subscribers, there will be interest from Google. But, again, how much will it take for Liberty Media (NASDAQ:LMCA) to let Sirius to get away? Although a deal with Google would make sense, Google already has a stake in privately-held TuneIn, which is beginning to gain traction in the auto market. TuneIn has secured auto deals with Ford (NYSE:F), General Motors (NYSE:GM) and Tesla Motors (NASDAQ:TSLA).
Suffice it to say, things are beginning to get interesting. Apple has dropped the first domino. But I expect this crowded audio/entertainment market to continue to consolidate. With Sirius and Pandora being the highest-profiled names, they stand the most to gain and the most to lose.
Disclosure: I am long AAPL.
Business relationship disclosure: The article has been written by Wall Street Playbook's tech sector analyst. Wall Street Playbook is not receiving compensation for it (other than from Seeking Alpha). Wall Street Playbook has no business relationship with any company whose stock is mentioned in this article.