With the Beats Deal Wrapped Up, Apple Should Buy Pandora

Apple should buy a much larger and established music streaming market leader like Pandora.

Jun 21, 2014 at 8:00AM

Apple(NASDAQ:AAPL) ramped up its music-streaming offerings with its acquisition of Beats. However, Apple can still acquire Internet music-streaming platform Pandora (NYSE:P) and see substantial growth from the space. It can acquire a proven market leader in the Internet streaming space as well as a competitor in the segment. Consumers are increasingly leaning toward music streaming instead of buying or downloading music. As a result, Pandora continues to see robust growth in listeners. 

Pandora is growing rapidly
Apple could be opportunistic in acquiring Pandora, as the leading Internet radio service saw its stock price experience a dramatic pullback as part of the broader technology sector sell-off. Pandora has strong footing in mobile devices, as mobile revenue accounted for 76% of Pandora's total sales in the first quarter of 2014. Pandora was profitable in the holiday quarter, but swung to a loss in the last quarter as the company's out-sized content acquisition costs continue to be a major issue. 

If a large company like Apple, with more than 800 million registered iTunes users, acquires Pandora, the scale of Pandora would dramatically increase overnight. It's also worth noting that Pandora has more than 250 million registered users, and integrating Pandora into some of Apple's high-traffic portals might entice some dormant users to frequent the platform more actively. 

In addition, Pandora is devising innovative advertising products like promoted stations, which will aid marketers to drive consumers to customized content. Pandora also saw its subscription revenue grow by more than 190% in the last quarter, so that makes the company a lot more attractive as well. 

It's complementary 
The music-streaming business of Beats is still in the early stages and is not proven. And there is no guarantee that Apple will be able to get a significant number of consumers subscribe to Beats. Pandora, on the other hand, is a proven market leader and continues to grow its business from every angle. Pandora stated in the last earnings that it has 5 million users in cars, and that is something that will be a very nice boost for Apple, too.  

Beats has a nice hardware business, with stylish smartphone accessories, and a subscription business that is relatively in its infancy. However, Piper Jaffray analyst Gene Munster stated that Apple buying Beats for $3 billion was an expensive "acqui-hire." Beats, run by Dr. Dre and Jimmy Iovine. Both men are extremely well-known and have strong relationships in the music and entertainment industry. Apple having them on board will be a great plus for the company, but that doesn't necessarily mean that the subscription service of Beats will be a big hit.

In addition, Apple has its own iTunes Radio business which hasn't been a big hit for the company. The free streaming radio is ad-supported but hasn't seen as much adoption as many expected due to the strong position of Pandora. Apple buying Pandora would be very complementary in its music services business and also serve to gobble up a competitor that Apple can't beat. Pandora continues to do far better than other Internet radio and music competitors like Spotify and iHeart Radio, and it should remain dominant in the space. Acquiring the leader makes sense for Apple.

The takeaway
In addition, competition is getting intense as Google and Amazon both have online music offerings, and Apple would want to get ahead of competitors in that competitive landscape. Since there are a number of players, consolidation makes a lot of sense.

Having an Internet-based platform like Pandora would be very beneficial for Apple. The iPhone maker would make good use of its big cash balance by acquiring the Internet radio leader, and broaden its revenue sources in the process. 

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Ishfaque Faruk has no position in any stocks mentioned. The Motley Fool recommends Apple and Pandora Media. The Motley Fool owns shares of Apple 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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