Pandora's Make-Or-Break Quarter: What Investors Need to Know

Pandora is seeing increasing competition, and it needs to separate itself from the pack to maintain a high valuation.

Apr 10, 2014 at 11:00AM

Pandora Media (NYSE:P) could be in for a rough time when it reports earnings after the bell on April 24. This is a make-or-break quarter for the company, as its last two monthly user reports disappointed investors, and it faces increasing competition from Apple (NASDAQ:AAPL) and Google. As with most issues in investing, this could be a double-edged sword for the stock. The two negative reports in a row could actually be a catalyst since many professionals have lowered their financial expectations. Should you buy the stock on weakness here, or sell ahead of a risky event?

Mixed monthly user metrics
On April 3, Pandora released its user metrics for the month of March, which revealed a notable increase in listener hours, the largest month-over-month percentage increase in the past 14 months. Although this looks good on the surface, the stock sold off anyway. It closed the day down 8.5% because active listeners remained flat, and still below December levels. Listening hours seem to have picked up again, however, perhaps because the snow melted and people began listening in their cars again. But, competition is pressuring audience growth.

An audience of 75 million people is an impressive accomplishment and worthy of a stable public company. The key is being able to monetize that base. Today, Pandora is doing that through advertising and subscriptions, but the company is not profitable; management has been pushing for growth rather than profitability. Going forward, it will need a clear and concise path to profitability.

Once-high expectations are now lower
Currently, the Street is looking for a loss of $0.14, but the company has a history of beating projections. In the stub quarter ending in December, it beat EPS by $0.04 and beat the top line by $4 million, or 2%. Even though the company has a history of exceeding expectations, an analyst would have to be irresponsible to have high expectations after two months of disappointing listener metrics, so even meeting expectations should be considered a win.

Competition is increasing
Apple and Google have been late to the online streaming music world, but Apple is here and Google is coming, possibly later this summer with a YouTube-based streaming product. Apple's iTunes radio was announced in June 2013 and launched on Sept. 18, but the level of the competition has been difficult to gauge beyond a drop in listening hours the month after iTunes radio's launch. 

Apple has become aggressive in trying to take share by sponsoring live music events such as a Maroon 5 concert on June 20, in partnership with American Express.  Apple is also expanding beyond the U.S. borders with the launch last February into Australia and New Zealand, the only international markets that Pandora has targeted to date. Google released Google Play All Access in May 2013, but it's service is more like Spotify than Pandora. Subscribers get access to over 20 million songs for $9.99 per month, but they can't create customized radio stations or play lists.  

Because Pandora's service is free, the increasing competition will show up in listening hours rather than active listeners. Pandora has a high-quality service and the basic version is free, so there is no reason to unplug entirely.

Beyond competition for subscribers, there may be increasing competition for investors' attention as well. There are rumors that Spotify will be going public in the near future, which will likely capture some of the incremental investment dollars as people diversify their bets across each of the players in the sector.

The negatives outweigh the positives
Considering the two weak monthly user reports, increasing competition, and a lack of earnings support for the valuation, it is difficult to make an investment case for owning Pandora shares. While expectations are low, unless the trajectory changes, a long position would be for a trade rather than an investment.

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David Eller has no position in any stocks mentioned. The Motley Fool recommends Apple, Google (C shares), and Pandora Media. The Motley Fool owns shares of Apple, Google (C shares), and Pandora Media. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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