Pandora Media (P) is an innovative Internet radio company that lets users create up to 100 personalized stations based on proprietary algorithms and user feedback. Let me be clear. I like the Pandora application and I use it often, but even after the post-IPO swoon, Pandora Media's stock valuation leaves little room for error consider their skimpy trailing revenues of $167 million and a history of losses. Based on 161.93 million shares outstanding, the company had a market capitalization of as much as $4.21 billion before dropping to $2.16 billion. Even after this steep drop, the company still trades at an staggering price/sales of 12.93. As much as we like Pandora the company, the stock bores us.
Instead, investors should focus on some of the companies that Pandora's management lists as competitors in their IPO prospectus, including: Sirius XM Radio (SIRI), Amazon.com, Google Inc (GOOG) and Apple Inc (AAPL).
Sirius XM Radio - Unlike Pandora, Sirius XM Radio has pricing power and significant leverage to the upside with each marginal subscriber. Where's the proof? Well from 2008 to 2010, revenues jumped sharply from $1.66 billion to $2.81 billion. This represents a 69.3% increase. During the same period, subscribers increased from 19.00 million to 20.19 million, a 6.26% increase. While there are other factors involved, these statistics clearly illustrated the huge financial upside for each marginal gain in the subscriber base. In addition, the company's pricing power is currently understated because it agreed not to raise the price of its basic service through December 31, 2011 as part of a litigation settlement.
At a forward P/E of 28.57 and a price/sales of 2.80, SIRI is not obviously cheap before factoring in secular growth opportunities and potential for significant economies of scale, but compared to Pandora, this stock is a steal.
Amazon.com - One of Amazon's biggest competitive advantages is its huge user base. The company's users have already purchased items from Amazon and in many cases these users have their billing information and payment information stored at the website. While Amazon.com is a major seller of music, they are not really a direct competitor to Pandora. The risk is really from a potential shift in Amazon.com's business model. Still, even in the mean time, investors may find Amazon.com more palatable compared to Pandora's stock metrics.
AMZN trades at rich valuations. They have a trailing P/E of 82.75, a forward P/E of nearly 50 and a price/sales of 2.35.
Apple Inc. - The mobile device and computing giant probably doesn't view itself as a Pandora competitor. But if Pandora views Apple as a competitor then it is a testament to Pandora's difficult competitive situation because Apple can easily succeed without Pandora, but Pandora's success depends in large part on the success of Apple and the growing adoption of its iPhone and iPad. This in and of itself is a strong reason to ignore Pandora in favor of Apple. Once you factor in the electronics giant's valuations it becomes an even easier comparison.
Apple trades at a trailing P/E of 15.61, a forward P/E fo 11.41 and a price/sales of 3.41. But these metrics make the company seem more expensive than they are since AAPL famously sits on a large excess pool of cash and investments. Once you strip out this relatively unproductive cash hoard, the forward P/E drops to around 9.41.
Google Inc. - The Internet search giant is not shy about venturing into new businesses. Google could be a potential competitor but it could also be a potential acquirer. As was the case with their YouTube purchase, if the GOOG feels they can purchase a product and profitably leverage their existing search and advertising expertise, they are willing to pay a premium for an acquisition. In this sense, Pandora is very interesting because their model is based largely on advertising potential, especially among mobile devices. If Google is motivated to create their own service, it would be a huge threat to Pandora, but if Google decides to acquire Pandora, their expertise in search and targeted advertising would pay huge dividends for Pandora.
Still, with Google's strong competitive position and reasonable valuations, GOOG is a much more interesting investment to us than Pandora. Google trades at a trailing P/E of 18.51 and a forward P/E of 12.08.
At some price, Pandora could become a very interesting investment opportunity, but at current levels, investors are better off focusing on stocks that Pandora listed as competitors on their recent financial statements, including: Sirius XM Radio, Amazon.com, Google and Apple Inc.