Last week, Pandora (NYSE:P) pre-announced its fourth quarter earnings results, letting investors know that its revenue and EBITDA will come in higher than originally anticipated. Management also mentioned in the announcement that the company will be eliminating 7% of its U.S. workforce this quarter. The layoffs "are designed to ensure the company can execute on its core strategic initiatives without additional capital", according to the press release.
Pandora is facing a much more competitive environment than just a few years ago. Big names like Apple and Amazon have entered the music streaming business with no need to actually be profitable. About the only other company trying to make an actual profit from streaming services is Spotify, which has managed to attract a massive subscriber base compared to Pandora.
No additional capital
Pandora is currently sitting on $258 million in cash and short-term investments. That's after tapping $90 million from an existing credit line in the third quarter to help prepay record labels the minimum guaranteed amounts associated with its new music-licensing agreements. Those agreements will allow it to launch its on-demand streaming service this year.
The new service, which will cost $9.99 per month, competes against similar offerings like Apple Music, Amazon Music, and Spotify Premium. It is also the biggest product initiative in Pandora's history. However, the company isn't in the best financial position for this kind of major product launch.
Over the past 12 months, free cash flow totaled negative $324 million. Of course, that includes the $93.3 million Pandora prepaid to record labels, and it does not include the savings from the layoffs. Still, it will be hard for Pandora to slow its cash burn enough not to require additional capital within the next year.
The on-demand music streaming business is not exactly a cash machine, either. Spotify saw its net loss widen in 2015, according to its annual report, despite growing its revenue 80% to nearly 2 billion euros. Granted, Spotify has its free tier of listeners, but then again so does Pandora. Meanwhile, competition from Apple and Amazon will keep margins slim for the entire industry.
What about the improved financial results?
Pandora's preannouncement implies that revenue topped its initial guidance of $362 million to $374 million. That $374 million represents a year-over-year increase of 11% in revenue. In the fourth quarter last year, Pandora grew revenue 25% on the back of its TicketFly acquisition. Pandora says its core advertising business did indeed accelerate last quarter. That's likely due to an increase in the number of ads Pandora plays per hour of music.
Growing through increasing ad load is unsustainable and could ultimately lead to a decline in listener hours considering the various competing services available. Pandora is hoping that it will increase sign-ups for its premium services, if it doesn't increase ad revenue.
The company says it added 375,000 new subscribers to its revamped subscription service, dubbed Pandora Plus. With its new music licensing agreements, Pandora was able to add extra features to its ad-free radio product. That made for a significant uptick in subscriptions considering it ended the third quarter with just four million subscribers and had added just 100,000 over the previous 12 months.
Indeed, Pandora's revenue and subscriber count are moving in the right direction, but its adjusted EBITDA (its own way of measuring earnings) is not. Even with better-than-expected results last quarter, Pandora likely still expects its earnings to decline. In the fourth quarter last year, it posted a loss of $25 million. The top of its previous forecast for last quarter was a $39 million loss.
Pandora will continue to burn cash as it pays more to license music and expands its product portfolio. With just $258 million in cash and liquid investments, it is going to have to do more than lay off 7% of its U.S. workforce if it really wants to avoid raising more capital.
Adam Levy owns shares of Amazon.com and Apple. The Motley Fool owns shares of and recommends Amazon.com, Apple, and Pandora Media. The Motley Fool has the following options: long January 2018 $90 calls on Apple and short January 2018 $95 calls on Apple. The Motley Fool has a disclosure policy.