Pandora Media's (P) history as a publicly traded company has always been fraught with potential pitfalls. The company that pioneered music streaming operates in a fast-changing industry with a business model heavily dependent on content acquisition costs, and profits have always been thin.
However, perhaps no time was more dangerous for the company and its investors than when Apple (AAPL 5.98%) moved to launch its own competing service, iTunes Radio, in 2013.
Pandora shares fell by double-digit percentages on multiple occasions as Apple took steps toward releasing the streaming platform. On the day iTunes Radio debuted, Pandora shares fell 10% as Apple announced that already 11 million users had signed up for iTunes Radio. Analysts repeatedly bemoaned the threat of Apple to Pandora, the music streaming leader. Paul Sweeney of Bloomberg said, "Whenever Apple decides to get into a business, it has proven to be a huge disrupter." Others insisted that Pandora should be "scared, or even terrified."
Nearly two years after iTunes Radio's debut, the current state of the streaming industry may surprise many of the doomsayers. Pandora is still the leader and growing fast, while iTunes Radio seems to be nothing more than a bit player.
In its most recent quarter, Pandora saw revenue increase 28% on an 11% uptick in listening hours. It now claims nearly 80 million active listeners.
In a recent survey by SunTrust Robinson Humphrey, Pandora was the clear leader in streaming as 73% of respondents reported using the service in May, compared to just 29% for iTunes Radio.
David vs. Goliath
When Apple announced iTunes Radio, it was obvious why so many thought it would destroy Pandora. Apple was a giant of technology with a market cap 100 times that of Pandora's; it had a track record of disrupting the music industry with iTunes and the expertise that came with that. Furthermore, it had a huge base of built-in iTunes customers. Lastly, previous Apple products like the iPhone had essentially killed the dominant handset makers at the time, like Nokia.
However, there were a number of reasons why iTunes Radio failed to have the impact that so many assumed it would.
First, it was essentially a copycat of Pandora, giving users little incentive to switch if they'd already formatted stations to their liking, and offering almost nothing that Pandora didn't already have. Though the launch attracted much attention, many users eventually switched back to Pandora, complaining that Apple's music selection, predictive algorithm, and station generation was simply not as good.
Pandora evolved from the Music Genome Project, which attempted to form a "genetic map" of songs. Its playlists are based on the MGP as well as years of feedback data from the thumbs up and thumbs down it solicits from users. Arguably, the streaming music pioneer simply had better software, a better interface, and therefore a better product.
With nearly 30 million users, it's hard to call iTunes Radio a failure, but the disappointment of the product is most evident in Apple's decision to acquire Beats Electronics less than a year after iTunes Radio launched.
Now, Apple is launching a new streaming service: this one more closely modeled after Spotify and focused on driving subscription revenue. That decision seems to be a clear admission that iTunes Radio is viewed as a major disappointment, if not an abject failure.
With Pandora victorious, there are few key lessons for investors to remember.
1. Quality matters
According to a report by Buzzfeed, Apple's managers were incredibly arrogant in the development of iTunes Radio, choosing to ignore competing services like Pandora and Spotify. They may have assumed that Apple's size and brand name would make it the pre-eminent player in streaming, but size does not guarantee an advantage -- especially when quality is lacking.
2. First-mover advantage is an advantage
Some of Pandora's listeners are paying subscribers, having already committed to a year's worth of the service. Others have spent time diligently customizing individual stations to maximize their enjoyment. Pandora gets high marks for user satisfaction, and a service like that with an established and content user base is hard to disrupt.
3. If you can't beat 'em, join 'em
Apple's decision to acquire Beats remains a mystery to many investors. The Beats Music streaming service only had 250,000 subscribers at the time of the purchase, indicating that Apple was acquiring the service for its potential and not its current assets.
But why not pick up a service that actually has a real user base if you're going to go shopping for one? Pandora has a market cap of less than $4 billion -- and had Apple acted sooner, it could have purchased Pandora a few years ago when its market value was under $2 billion.
That deal would have made more sense than the Beats acquisition, as it would have given Apple ownership of the leading streaming service and access to a trove of listener data, which the company could have combined with iTunes to reinforce its music empire.
As it stands now, iTunes downloads are quickly falling and Apple is without a leading streaming service. Its once dominant position in music is getting weaker every day.
