Pandora Media Inc Might Still Be Too Rich


Pandora Media  (NYSE: P  ) , one of the biggest media-streaming companies in the U.S. has fallen by almost 50% from its recent March highs of $40, to about $21 recently. There are many reason for this, and if my Foolish thesis is correct, Pandora will not see $40 anytime soon. 

There was too much baked in the cake
To begin with, let's start with the company's most recent quarterly report. The company reported Q1 2014 GAAP revenue of $194.3 million and non-GAAP total revenue of $180.1 million, growing 69% and 54% respectively year-over-year. What's wrong with such high growth? The answer is that there's nothing wrong with it, if you can keep up the pace ...

The company has enjoyed consistent year-over-year revenue growth of 50% on average, and Wall Street has been pricing is such growth into Pandora's stock accordingly. The current 12 month price target according to analysts from Thomson/First Call is about $35 a share.

But when the second quarter forecast from the company called for expected revenue of only $213-$218 million (a 37% rise on a year-over-year basis, based on the company's $157 million revenue of Q2 of last year) then all bets are off, and analysts have to rethink their price targets and readjust their long term models.

See, there is a big difference between 37% and 50% revenue growth that the market has been accustomed to. As such, chances are that we might see some downgrades over the next several days, as analysts begin to price in this lower pace of growth into their models.

Apple might finally be weighing on Pandora 
Also, Apple's (NASDAQ: AAPL  ) iTunes service might probably be doing some damage to Pandora also. Everyone has been surprised of how resilient Pandora has been thus far to Apple's iTunes Radio. Maybe this time around Apple is finally doing some permanent damage. If so, then that might be another reason for analysts to lower Pandora's future price target.

Pandora is not exactly a bargain 
Another issue with Pandora is the company's very rich valuation. Management is projecting about $880 million in revenue for 2014, with non-GAAP diluted EPS between $0.14 and $0.18. If one does the division, the current forward 12-month P/E for Pandora is about 133. Also (and more important in my book), the price/sales ratio of Pandora, on a 12 month forward basis (based on management's $880 million in revenue guidance), comes out to about 5.3 (and that's after the recent dive of the stock). In my book that's a little too rich for a stock that barely has any after tax profits.

Dilution is the long term investors headwind
And then there is the small issue of the total number of shares.  Currently the company's total outstanding number of shares stand at 197.4 million.

P Shares Outstanding Chart

P Shares Outstanding data by YCharts

But according to management,  guidance for the second quarter calling for non-GAAP EPS between $0.00 and $0.03 is modeled on "226 million diluted weighted average shares outstanding for the three months ending June 30, 2014".

Why exactly will the company be issuing about 29 million additional shares (over 10% dilution) by the end of June I really don't know, and frankly I don't care. In my book that is a no-no, and personally speaking I avoid such stocks.

Final thoughts
Pandora has fallen by almost 50% and it is only natural that we might see some sort of relief rally. However keep in mind that it might turn out to be a dead cat bounce, because even at these lower prices, the stock is still priced to perfection.

So if you are a more conservative investor who doesn't have much of a stomach for very wild swings -- and high P/S stocks -- I would probably avoid trying to play the bounce, unless of course you have an appetite for the "wild side" of investing.

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