Pandora's IPO: Unique Audio Algorithms Work; A Sirius Difference

| About: Sirius XM (SIRI)

Oakland, California-based Pandora filed for a $100 million IPO Friday, February 11, 2011. The lead underwriters are Morgan Stanley (NYSE:MS), JP Morgan (NYSE:JPM), William Blair, and Stifel Nicolaus Weisel.

IPOdesktop has been a registered Pandora user for several years, and a $36 per year paid subscriber for about a year. As far as we're concerned there is no direct competition between Pandora and Sirius (NASDAQ:SIRI), because neither Sirius nor anyone else has similar algorithms that work well for different classical music playlist stations. If someone is listening to Pandora, however, then they are not listening to Sirius.

The longer we use Pandora the better the algorithms work.


Pandora is the Internet radio leader and provides highly personalized experiences. Its unique, proven, proprietary algorithm increases listener satisfaction. Pandora has a base of 80 million registered users in the U.S. that grew at an annual rate of 40% in the month of January. According to some reports, 40 million came on when Pandora launched an iPhone app.

In the S-1 filing Pandora itself says, "We believe that, while imperfect, our number of registered users is indicative of the growth of awareness of Pandora. The information we collect from listeners does not permit us to identify when a listener may have created multiple accounts, nor prevent listeners from creating multiple accounts." (page 43, Feb 11 filing).

On average, Pandora currently runs less than one minute of audio ads per hour of listening. By comparison, the three major radio networks averaged approximately 13 minutes of ads per hour in 2009, according to SNL Kagan, a media and communications research firm. For the nine months ended October 31, 2010 Pandora listeners accumulated 2.6 billion listening hours.

Pandora was cash flow positive from operations for the nine months ended October 31, 2010 (page 57, Feb 11 S-1 filing). Three of the last four quarters were profitable. The loss quarter was April 2010 when revenue was $21.6mm, which then climbed 75% to $37.7 for the October 2010 quarter. (page 54, Feb 11 S-1 filing).

For the nine months ended October 31, 2010 total revenue was up 290% to $90 million, compared to the nine months ended October 31, 2009. Subscription services and other revenue (both non-advertising) grew 473% to $12.3 million from $2.6 million (page 48, Feb 11 filing).

For the October 2011 nine months subscription services and other revenue (both non-advertising) accounted 13.6% of total revenue, up 49% from 9.1% of total revenue for the 12 months ended January 31, 2010.

For the nine months ended October 31, 2010, Pandora's then 71 million registered users listened to Pandora for 2.6 billion hours, or an average of four hours per month. A number of the registered users obviously are not active users.

70% of IPO proceeds are allocated to fund expansion and growth.

CASH POSITION -- As of October 31, 2010, Pandora had cash and cash equivalents of $40.8 million. Pandora believes, based on its current operating plan, that existing cash and cash equivalents and available borrowings under the credit facility will be sufficient to meet anticipated cash needs for at least the next 12 months (page 56, Feb 11 filing).

Pandora has pioneered a new form of radio – one that uses intrinsic qualities of music to initially create stations and then adapts playlists in real-time based on the individual feedback of each listener. The company has more than a 50% share of all internet radio listening time among the top 20 stations and networks in the United States, according to a November 2010 report by Ando Media, or Ando, an audience measurement and ads management firm.

Since Pandora launched its service in 2005, listeners have created over 1.4 billion stations. As of January 31, 2011, Pandora had over 80 million registered users and added a new registered user every second on average for the month of January – an annual addition rate of over 32 million, or 40%. Probably a lot of the 80 million users are not active users.

Pandora has traction with consumers and traction in the OEM channel. In addition to streaming the service to traditional computers, Pandora has developed applications for smartphones, such as Android phones, Blackberry phones and the iPhone, and partnered with the makers of over 200 consumer electronics devices, including Alpine, Panasonic (PC), Pioneer (OTCPK:PNCOF), Samsung (OTC:SSNLF) and Sony (NYSE:SNE).

To date, the Pandora app has been downloaded more than 50 million times on the most popular smartphone platforms in the United States. According to a September 2010 report by Nielsen, a media measurement firm, the Pandora app is a top five most used app across all four major smartphone platforms in the United States.

In January 2011, the Pandora app was the #2 all-time downloaded free iPhone app and the #1 all-time downloaded free iPad app, according to Apple (page 2, Feb 11 filing).

Pandora has also developed relationships with major automobile manufacturers, including Ford Motor Company (NYSE:F), Mercedes-Benz and MINI (BMW Group), and their suppliers, to integrate the Pandora service into current and future automotive sound systems.

The Music Genome Project and Pandora’s playlist generating algorithms form the technology foundation that enables Pandora to deliver personalized radio to listeners. Proprietary technologies power Pandora’s ability to predict listener music preferences and play music content suited to the tastes of each individual listener.

The extensive musicological database of the Music Genome Project has been meticulously built by a team of professional musicians and musicologists analyzing up to 480 attributes, or genes, for every song in Pandora's vast collection, to capture the fundamental musical properties of each recording.

When a listener enters a single song, artist, composer or genre to start a station – a process Pandora calls seeding – Pandora’s complex mathematical algorithms combine the genes cataloged by the Music Genome Project with individual and collective feedback to suggest songs and build personalized playlists.

Over the last decade, Pandora’s music analysts have been analyzing songs, their engineers have been organizing the genome and refining the playlist generating algorithms and, since the launch of the service five years ago, Pandora’s listeners have been giving feedback as they use Pandora’s service.

Containing over 800,000 songs from over 80,000 artists, Pandora believes the Music Genome Project is the most comprehensive analysis of music in the world.

Proprietary personalized playlist generating system enables Pandora to predict listener music preferences and stream music content that is tailored to individual music tastes.

• Genotyping Music.
Pandora’s music analysts measure up to 480 attributes per song that collectively capture a song’s musical attributes – everything from melody, harmony and instrumentation to rhythm, vocals and lyrics.

• Leveraging Individual and Collective Feedback
While listening to a (personalized) station, listeners provide feedback by selecting a thumbs-up (I like this song) or a thumbs-down (I don’t like this song). These “thumbs” teach Pandora’s more about listeners’ preferences and Pandora uses them to adapt and improve the playlist for each listener in real-time. In 2010, Pandora received an aggregate of over three billion thumbs, and since the launch of the service we have collected over eight billion thumbs.

• Developing and Refining Playlist Generating Algorithms.
Pandora has developed, and continues to refine, complex mathematical algorithms that combine the musical analysis from the Music Genome Project with the individual and collective feedback Pandora receives from listeners to predict music preferences and generate personalized playlists.

• Pandora’s Catalog gets Larger.
Pandora adds thousands of songs per month to the Music Genome Project based on music selected by Pandora’s curators, feedback from listeners and independent submissions by artists.Pandora’s vast catalog of songs represent nearly every recorded musical genre, from classical, jazz, rock, pop and hip hop to post punk, Celtic and flamenco.

• Multi-Channel Distribution Ecosystem
Pandora works closely with distribution partners, including manufacturers of smartphones, consumer electronics products and automotive sound systems, so that listeners can enjoy personalized radio anytime, anywhere.

COMPETITION -- in our opinion, only Pandora has effective playlist generating algorithms. It's a subjective conclusion and not everyone cares, of course.
Other Radio Providers
• Other broadcast radio providers, including terrestrial radio providers such as Clear Channel and CBS (NYSE:CBS) and satellite radio providers such as Sirius XM. Many broadcast radio companies own large numbers of radio stations or other media properties.
• Many terrestrial radio stations have begun broadcasting digital signals, which provide high quality audio transmission. In addition, unlike the emerging internet radio market, terrestrial and satellite radio providers, as aggregate entities of their subsidiary providers, generally enjoy larger established audiences and longer operating histories.
• Broadcast radio pays no royalties for its use of sound recordings and satellite radio pays a much lower percentage of revenue, currently 7.25%, than internet radio providers for use of sound recordings, giving broadcast and satellite radio companies a significant cost advantage.
• Also competes directly with other emerging pure play online radio providers such as iheartradio, and Slacker Personal Radio and could face additional competition if known incumbents in the digital media space such as Apple (OTC:APPL), Amazon (NASDAQ:AMZN), Facebook or Google (NASDAQ:GOOG) choose to enter the Internet radio market.

Other Audio Entertainment Providers.

• Pandora faces competition from providers of alternative forms of audio content and pre-recorded entertainment, such as Apple’s iTunes Music Store, online subscription on-demand music providers such as RDIO or Rhapsody, as well as potential market entrants like Spotify, which provide audio content that can be directly selected, streamed or purchased, and played in automobiles and homes, using portable players, mobile phones and other wireless devices.
• The audio entertainment marketplace continues to rapidly evolve, providing listeners with a growing number of alternatives and new media platforms.

Other Forms of Media

• Pandora competes more broadly for the time and attention of listeners with providers of other forms of in-home and mobile entertainment.
• To the extent existing or potential listeners choose to watch cable television, stream video from on-demand services such as Hulu, VEVO or YouTube or play interactive video games on their home-entertainment system, computer or mobile phone rather than listen to the Pandora service, these content services pose a competitive threat.

STOCKHOLDERS -- 75% owned pre-IPO Venture Capital funds: Crosslink Capital, Walden Venture Capital, Greylock Partners, Labrador Ventures V-B, L.P, Hearst Corporation, GGV Capital

USE OF PROCEEDS -- In the $100 million range. To pay $28.5 million of accrued preferred stock dividends and the balance for general corporate purposes

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