Is Pandora Finally a Buy?

Pandora Media (NYSE: P  ) shares tanked yesterday after the company cut guidance in its third-quarter report. The music streamer said it expects an adjusted loss of $0.06 to $0.09 in the fourth quarter, while the experts had projected a $0.02 profit.

Blaming the scaled-back predictions on the fiscal cliff, CEO Joe Kennedy said that advertisers have cut their spending due the potential slowdown in the economy. "There are concerns about the effect the fiscal cliff will have on growth, and it's reduced our visibility," he said. "When our clients are cautious, we have to be cautious."

But a closer look at the actual third-quarter results should be heartening to shareholders. Let's take a look at some of the growth figures:

  • Total revenue up 60% to $120 million
  • Listener hours up 67% to 3.56 billion
  • Active users up 47% to 59.2 million 

Those are solid improvements, of course, but the most important figure isn't up there. Mobile advertising revenue in the quarter skyrocketed, climbing 112% to $73.9 million, meaning it now contributes over 60% of total revenue.

It seems like Pandora may have finally figured out how to monetize the mobile market and hitch a ride on this shooting star. Smartphone and tablet penetration will continue to grow, and further improvements in technology should only benefit the Internet DJ. Kennedy pointed out that the company launched Pandora 4.0 for iOS and Android, which brought "new, innovative and enhanced functionality to mobile devices for the first time for both users and advertisers."

Adjusted earnings for the quarter were also respectable, at $0.05 a share.

Combine the poor guidance, relatively strong earnings, and outstanding mobile growth, and you have a company that's performing at as high a level as we've seen, but a stock trading nearly as low as it's ever been, now under $8.

Fiscal cliff, schmiscal cliff
If Kennedy is correct that the current advertising slowdown is a result of the fiscal cliff, then the market's overreacting here. The cliff will likely get resolved in one way or another at some point, and the economy will continue chugging along. In, other words, this is merely a speed bump, not a long-term concern. Mobile growth, on the other hand, will continue to be a juggernaut for the company, and Pandora has established itself as one of the top channels for targeting mobile users, which will only make it more valuable in the future. By targeting users' ears instead of eyes, Pandora has an asset that tech titans like Facebook (NASDAQ: FB  ) and Google (NASDAQ: GOOGL  ) can only dream about. When it comes to mobile monetization, it's no wonder those two are struggling to make the new medium work for them.

Based on the mobile potential and proof of Pandora's profitability, I expect to see one or two analyst upgrades in the coming weeks. Even by valuation standards, Pandora's share price seems to ignore much of its growth potential, as it now trades at a P/S ratio of 4, and extrapolating third-quarter earnings would give it a P/E of 38. By comparison, more mature rival Sirius XM Radio (NASDAQ: SIRI  ) trades at a P/S of 4.4 and an adjusted P/E of 46.

Foolish bottom line
Plenty of risks remain for Pandora, such as the potential threat from Apple entering Internet radio and the possibility of losing its battle to reduce royalty rates through the Internet Radio Fairness Act, but the pieces are coming together to finally form a solid investing thesis. Profitability is real, mobile growth is outstanding, and the price is reasonable. Shares may have tumbled nearly 20%, but that's typical Wall Street nearsightedness. Pandora shares today look more compelling than ever.

Get more insight on Pandora by picking up a copy of our brand-new premium research report that goes in depth on the Internet DJ. This report takes a look at the major opportunities and risks confronting the company, and lets you know key areas and statistics to follow going forward. As a bonus, this package comes with a year's worth of free updates in what's sure to be an exciting 2013, making the hard work of following your stocks easy. To get started today, all you have to do is click right here.


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