EXCITING HIGH GROWTH STOCK WITH RISKS
While music streaming company, Pandora Media (P) has impressively amassed 94 million registered users and 34 million active users, their stock is valued largely on future prospects. The current $3 billion valuation is susceptible to any slow down in sales growth or a failure to develop their mobile device advertising model. The company generated $167 million in revenues during the last 12 months and it has never generated a profit. Also, the company's business model has only moderate leverage to growth since the content acquisition costs scale closely with revenue. As such, to support the current stock price, Pandora may have to accelerate its already eye-opening growth (136% YoY growth in the most recent quarter) to justify the stock price.
LOOMING THREAT INCREASES RISK
The Wall Street Journal reports that Spotify AB intends to launch their Internet music streaming service in the U.S. next week. The popular London based company has content agreements with Universal Music Group, Sony Music Group and EMI Group. They are expected to finalize terms with Warner Music Group in the near future. Much like Pandora Media (P), Spotify offers a limited amount of free streaming that's financed by advertising revenues as well as a paid subscription service for unlimited listening.
Pandora shareholders may find solace in knowing that the company's recent IPO was a massive success. With a market capitalization of $3 billion on less than $200 million of sales, the market is giving the company a strong boost of confidence in both the business model and the management. In addition, the company gains a leg up on some smaller competitors as it gains easier access to capital. But Spotify should be taken seriously. As of March 2011, Spotify had 1 million paying users and 10 million total users. In addition, the company has strong backing from respected investors, including: Kleiner Perkins and Digital Sky Technologies, whose $50 million investment earlier this year valued the music streaming company at $1 billion.
Pandora may be the hottest name in the music streaming business right now, but it would be wrong to paint Spotify as the sole upstart. There are currently a plethora of competitors in an increasingly saturated market. Slacker, Last.fm, and Rhapsody come to mind. Slacker was recently in the news for replacing CBS in a partnership to run AOL Radio. They followed up that coup with a potentially game changing agreement with the AARP to offer streaming video for a huge under exposed demographic.
And of course, no discussion of the industry would be complete without at least mentioning powerhouse players like Amazon.com (AMZN), Apple Inc (AAPL) and Google Inc (GOOG). Amazon and Apple already have strong presences in the music industry and their plans to offer cloud based music services could be a natural transition towards services that will eventually compete directly with companies like Pandora, Spotify and Slacker. Google Inc has also made a move into music, but it's largest stake in the competitive landscape may still be through YouTube where music videos remain one of the site's biggest draws.
SERIOUS COMPETITION FOR SIRIUS XM
We are bullish of Sirius XM (SIRI) and as such, listed the company among 5 Stocks That Could Double in Price. But we are not dismissive of competitive threats. We appreciate the growth of Internet streaming radio especially as it rides the coattails of the secular growth in mobile Internet device adoption. This is a powerful growth driver and as companies improve the advertising model for mobile devices, there is potential for acceleration in revenue growth.
Still, we do not think that the increasingly crowed music streaming industry poses significant near term challenges to Sirius XM's subscription based model. So while Spotify and Slacker collect their headlines, investors should focus on the slower growth, higher revenue model at Sirius XM. SIRI's 20.19 million subscribers is much less than the growing user base at Pandora, but SIRI's users are mainly paid users. In 2010, the company's average revenue per user was $11.73 per month, a 7.12% gain from 2009 levels and an 11.08% gain from 2008. SIRI's strong inroads into the auto market are a durable competitive advantage at this point. Increases in their adoption among both new and used cars reduces the marginal cost for acquisition and as such perpetuates a virtuous cycle.
Spotify is the new favorite among financial and technology media sites, but investors should consider the developments carefully. The company could very well pressure Pandora and other streaming music companies because of the similarity of service. But other competitors like Google, Amazon, Apple and Sirius should have strong enough market positions and niches that they will not be affected by Spotify in the near future.