Seeking Alpha
Profile| Send Message|
( followers)  

Lately I have been keeping an eye on Pandora's (NYSE:P) stock and wondering if it would be worth investing in. As of today the product is much more desirable than the stock is, even after last week's impressive rise. The escalating royalty payment issue aside, I have become concerned with the recent decision of Pandora to go unlimited on monthly listening hours. I use the free version on my iPhone and have found it to be the best way to get customizable music stations. I have not however, used the web version of Pandora until recently, and I have never once reached the monthly listening limit.

Pandora One, the $36 per year premium upgrade option just became a bit less necessary and a lot less valuable to current and potential subscribers. The latest iteration to the Pandora website, which primarily included an improved platform for advertisement delivery, has also included some enhanced features like song lyrics as well as the surprising elimination of the 40 hour monthly listening limit for ALL users, a benefit once afforded to the paying Pandora One subscribers only. Back in July of 2009 Pandora announced that the new royalty rates would mean the implementation of a 40 hour listening limit, and directed affected users towards the premium upgraded version of Pandora. The following official statement was posted on the Pandora blog in 2009.

"The revised royalties are quite high - higher in fact than any other form of radio. As a consequence, we will have to make an adjustment that will affect about 10% of our users who are our heaviest listeners. Specifically, we are going to begin limiting listening to 40 hours per month on the free version of Pandora. In any given month, a listener who hits this limit can then opt for unlimited listening for the remainder of that month for just $0.99. In essence, we're asking our heaviest users to put a dollar (well, almost a dollar) in the tip jar in any month in which they listen over 40 hours. We hope this is relatively painless and affordable -- the same price as a single song download. (Alternatively, they can upgrade to "Pandora One", our premium version which offers unlimited monthly listening in addition to its other benefits)."-Tim Westergren

After the 40 hour monthly limit was implemented, the registered user base began to grow quite quickly. I have often said that the rise in registered users could have been related to the heaviest users exhausting the monthly listening or hourly skip limits and as a result, many might have simply logged off and created a new user account with a separate email address to circumvent the limitations. (100 million registered users vs. 37 million active users, it seems unreasonable to me that 63% of users would be unsatisfied with "free" customized music).

Pandora did however convince about 10% of its users to decide to actually pay for the premium service at $36 a year. These premium users were afforded the ability to listen as long as they wanted, in addition to the other features including a higher sound quality bit stream, no advertisements, customizable skins, a desktop app and 5 hours of uninterrupted listening before interaction would be required to continue. Depending on which features you believe drive users the most to become subscribers, you may find yourself agreeing with me that of the features listed, unlimited listening and the freedom from ads would be the most valuable features. As of now, jilted Pandora One subscribers are presented with the decision to continue paying for a premium subscription with features that were just cut in half or going back to the free version or worse, moving on to another service all together. Some of the comments on Pandora's blog illustrate the concern far better than I could.

I continue to be interested in investing or trading in companies whose products I use, understand and enjoy. In addition to using the free Pandora app on my phone, I am also a Sirius XM subscriber with multiple accounts. My decision to subscribe to Sirius XM (NASDAQ:SIRI) was initially driven by the addition of Howard Stern and secondarily by my disdain for the ample supply of terrestrial advertisements I received on the static-laden FM radio stations in my car. I have come to appreciate the massive variety on Sirius XM (beyond Howard Stern) as well as the reach and simplicity while using satellite in the car. I do not currently use Pandora while driving. Once I am on my commute, (due to my business hours) my phone will begin ringing continuously and the email alerts and texts will come quite frequently, essentially negating the possibility of ever using Pandora through wires or blue tooth while traveling. I do however use Pandora while at home on my iPhone and iPad when the business day is done.

Pandora fits perfectly into my home, mostly for its ability to play the "iCarly" station I created for my 5 year old daughter, which for me, relieves the enormous burden of buying all of the songs it would require to create such a mind-numbing station. The thumbs up and down is easily taught to a child and it affords some much needed independence to a kid who is anxious to grow up and has become less interested in daddy helping her at all times. I am now painfully aware that her finger dexterity is not as precise as mine and as such, her sticky little fingers have inadvertently opened many advertisements while attempting to minimize the pop-ups that obscured the beautiful shade of blue in Katy Perry's hair. I have a ton of new spam in my inbox from "Living Social" to prove it. Pandora and Sirius XM are indeed competitors, but currently it is not one or the other for me, nor does it have to be. I can appreciate the differences and the value of each service and with the combination of the two I have everything I would ever need in audio entertainment and information. I am waiting to see if the 2.0 version of Sirius XM will make using Pandora obsolete for me as they have promised the ability to create custom stations. The new version will be released soon ... I think. For now I'm killing time by jumping in and out of (SIRI) for small profits. I'm currently out and looking to get back in before some positive announcements hit the street.

To expand further upon my concern in deciding to invest in Pandora or not, I can't stop contemplating what going unlimited might possibly mean, was it a good decision or will it have ultimately been a bad one? I wonder what the impact to the bottom line will be once the revenues generated by the premium subscriptions possibly begin fading away. Subscriptions generate about 15% of the revenue currently.

Three Months Ended July 31, $ Change Six Months Ended July 31, $ Change
2010 2011 2010 2011
(in thousands) (in thousands)

Advertising

$ 26,723 $ 58,258 $ 31,535 $ 45,169 $ 101,919 $ 56,750

Subscription services and other

4,112 8,708 4,596 7,265 16,087 8,822

Total revenue

$ 30,835 $ 66,966 $ 36,131 52,434 118,006 65,572

Time will tell as the "unlimited" announcement came at the end of the quarter, so any Pandora One subscribers who might be inclined to cancel will not show up in any meaningful way in the next report, but they might reveal themselves over time as yearly subscriptions begin to lapse. I am currently toying with the idea of trading in and out of like I currently do with as they both exhibit the wide swings that make trading exiting. Timing is everything.

I can certainly see the value of Pandora encouraging longer listening to justify higher exposure for advertisers. Currently the average active user listens about 1/2 an hour daily. I have used Pandora for about 3 years, so I have experienced the increased advertisements in real time. As each new Pandora App update is issued, they are generally labeled as "minor bug fixes" but I have come to understand "that" to mean the implementation of the required adjustments for maximizing the advertising frequency on my phone and little else. The push for more ads is getting close to annoying but nowhere near the un-listenable amount of ads that terrestrial radio employs. I have noticed that if you do not interact with the Pandora app, the advertisements will be less frequent, but lately, if you skip as much as I do, the video ads appear after every second song. I am not one to be overly swayed by advertisements (other than to be generally repulsed) but I have recognized the concerted effort to get new car ads in front of me on Pandora. I find it ironic that if the ads are indeed "highly effective" consumers might be directed by Pandora to go shopping at the Sirius XM subscription generation factories ... car dealerships. I have also found that I am now being targeted by dating service advertisements on Pandora, I am married, so I'm not sure they are targeting me correctly ... or are they? I'll check with my wife.

This week Pandora announced its inclusion into the Hyudai Veloster, the efforts of Pandora to penetrate the dash board are making progress as the list grows larger year after year. Interestingly, one of the people behind the scenes of this success is a former XM and Sirius XM employee. Currently, George Lynch is the vice president of automotive business development for Pandora, but before that he was the vice president of automotive partnerships at Sirius XM and before that he was vice president of automotive accounts at XM. It seems Pandora does pay attention to the successes of Sirius XM after all.

I am not as intrepid as others to jump into Pandora's stock before profitability is achieved, but with that being said, my timidity had also prevented me from getting in on at $.05 so what do I know? I am also waiting for the 180 day insider restriction for Pandora to expire for a glimpse at the insider sentiment. The future of Pandora remains a high wire balancing act worthy of watching. The revenue/royalty high wire team is a bit wobbly and is still 4 years away from reaching the other side of the wire, where it remains to be seen if a thinner wire awaits. The advertising/subscription team has just slipped a little sending subscriptions plummeting towards the ground, I'm not sure if they are using a net or if advertising purposely pushed subscriptions off the wire. In the mean time I will remain a spectator, but for now I'm off to buy some candy at the snack bar while keeping one ear open in case I hear some horrifying screams coming from the arena.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in SIRI over the next 72 hours.

Source: Focus On Free: Whether Pandora Just Gave Up On Pandora One