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Can Pandora Continue Growing?

Shares of Pandora Media (NYSE: P  ) are down more than 10% in the past few days, as investors lose faith in the music streaming service's growth story. Founded in 2000, the company became popular for being the custodian of the Music Genome Project, an extremely powerful algorithm for music recommendation. However, in the past few months, the company has struggled with fierce competition from Spotify and Apple's (NASDAQ: AAPL  ) new music streaming service, iTunes Radio. Can Pandora continue growing?

Source: Pandora

In its most recent quarter, Pandora reported a net loss of $0.14 per share, which was a bit higher than the consensus. In terms of top line, the company generated $193.4 million in revenue, representing a 69% increase year over year. Advertising revenue increased 45% year over year to $140.6 million. Subscriptions were particularly strong, as they saw a 94% increase year over year.

It's all about user growth
Although Pandora's growth numbers may look decent enough at first glance, the reality is that the company may need to deliver massive growth in order to sustain its current market capitalization. Pandora, which is expected to grow revenues by 31% in 2015, is trading for more than 30 times forward earnings. Clearly, investors see this company as a high-growth stock, and therefore may pay more importance to user growth than earnings.

In terms of user growth, Pandora's situation could be a bit delicate due to increased levels of competition. In the latest monthly audience report published by Pandora, the company stated it had 77 million active users in May, up from 76 million in April, and 70.8 million a year ago. Clearly, the company is suffering from decelerating user growth. To make matter worse, listener hours rose only 1.7% on a month to month basis. In terms of market share, the company's share of total U.S. radio listening actually declined from 9.28% in April to 9.13% in May.

Pandora's disappointing user growth metrics can be explained by the increase of competition. In particular, Apple is a fierce competitor, especially after acquiring Beats for more than $3 billion in order to improve its streaming radio service.

Beats, which includes both Beats Audio hardware and Beats Music radio service, was founded by rapper Dr. Dre and music industry executive Jimmy Iovine. Beats Music, which was launched in Jan. 2014, has more than 250,000 subscribers. The deal is expected to revamp iTunes Radio, which already has more than 40 million monthly users.

Unfortunately for Pandora, Apple isn't the only big tech player interested in the music streaming space. Google's recent purchase of Songza, a Pandora-like music player focused on anticipatory contextual playlists, is a signal that the search engine giant is very serious about conquering the online music streaming space.

Finding new growth opportunities
As competition increases, Pandora will have to differentiate its service as much as possible in order to continue growing. One way of achieving differentiation is by specializing on a particular market segment, such as in-car integration.

The car industry represents a huge market opportunity for Pandora, as analysts estimate that roughly half of all radio listening happens in the car. The company has put strength in cars in the past few months. As a result, this year 135 car models are expected to be released with Pandora built in. Moreover, more than five million new Pandora users have signed up in the car so far.

Final Foolish takeaway
Pandora needs to deliver massive user growth in order to justify its huge market capitalization. Increasing competition from Apple and Google will make it difficult for Pandora to continue growing, yet it is still possible for the company to deliver better-than-expected growth figures through a well-planned differentiation strategy. The recent emphasis on cars is an example of how Pandora could come up with new ideas to increase user base and revenue.

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  • Report this Comment On July 16, 2014, at 1:12 AM, BillFromNY wrote:

    I would feel very uncomfortable holding Pandora right now. Despite its deserved popularity among music streaming services, and its large number of listeners, it has not been able to turn a profit, largely because of the stiff royalty fees that it is forced to pay.

    And now it has Apple, with its 150 billion dollars of pocket change and Apple iTunes radio taking dead aim. Apple's new CarPlay option, available mostly in upscale autos this year, is a fairly expensive option that must be purchased. It only is of use to those who own iPhones. The iPhone is connected to CarPlay and through a large touchscreen the driver can activate, through touch or voice, the Apps installed on that iPhone as well as Apple Maps and iPhone conversations..

    The kicker is that Apple CarPlay must support the Apps that will work with CarPlay and right now they are not playing nicely at all with Pandora.

    CarPlay is only receiving mediocre reviews, in part because it can not replace the auto's Bluetooth or built-in navigation system or SiriusXM radio which the auto dealer is required to install by contract.

    But even if CarPlay flops, it is small comfort for Pandora to know that it has a rich and wealthy competitor gunning for it. An acquisition might be best.

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Victoria Zhang

I'm an economist, coffee addict and value investing fan. My obsessions include fashion, online retail, traveling, disruptive technology, and Asia.

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