Shares of Pandora Media (NYSE:P) had their best day as a publicly traded company last week, jumping 18% after its results beat Wall Street's estimates. Let's take a look at some of the highlights:
- Revenue in the quarter grew 54%, to $125.1 million
- Mobile revenue jumped 111%, to $80.3 million, outpacing mobile listener hours, which grew by 70%
- Mobile devices represented 79% of listener hours
A quick, back-of-the envelope calculation reveals that nearly all of Pandora's additional revenue came from mobile devices. Pandora is a mobile company, above all else, and has clearly staked its future on the new medium. Pandora's business model has been widely panned because of rapidly growing content costs, but all the while it's been cleverly developing a unique niche. Its advertising-based model offers something that competitors like SiriusXM Radio and Spotify don't, and Pandora can capitalize on mobile's potential to offer advertisers something they can't get from other partners.
CEO Joe Kennedy said on the conference call that Pandora can offer advertisers "new and unique technological capabilities," such as "targeting, interactivity, and measurability" that they can't get with traditional radio. It's easy to imagine future development, such as Pandora taking advantage of GPS capabilities to offer listeners precise location-specific ads.
The disproportionate growth of mobile revenue also proves that the strategy has legs. Each new user is being leveraged to grow revenue at a faster pace, demonstrating that the company is making progress in cracking the radio ad market. As Kennedy reminded listeners on the call, the U.S. radio ad market is worth $15 billion a year in sales. Considering that Pandora already has an 8% share of the domestic radio market, the company should be doing sales of over $1 billion, if its sales were in proportion to its listening hours. Instead, fiscal 2013 revenue, i.e. its last four quarters, was just $427.1 million.
Another bright spot was the growth in subscription revenue. Though the category still just makes up 12% of total revenue, subscription sales grew by 75% in the quarter, outpacing overall top-line growth. For the year, subscription sales grew just 50%. At the end of February, the company announced it would cap free mobile listening at 40 hours a month, which should drive increased subscription revenue going forward.
Not all a bed of roses
Despite the growth in mobile and the market's strong response, there were still some reasons to be concerned. Pandora continues to lose money. For the quarter, it posted an adjusted loss of ($0.04) a share, and guidance was also a bit light. For the current quarter, management sees revenue between $120 and $125 million, a sequential drop, and an adjusted EPS loss of ($0.10) and ($0.13). For 2013, the midpoint of its EPS guidance is break-even, with revenue between $600 and $620 million.
Content acquisition costs in the quarter again outpaced revenue growth, increasing 59%. While that figure had been a principal focus of the market in past reports, analysts seemed to ignore the disparity this time around, choosing instead to focus on the sales side.
The other surprise for investors in the earnings announcement was that CEO Joe Kennedy will be leaving the company. Kennedy has led the company for nine years, and will stay on until Pandora finds an appropriate successor. Kennedy is leaving for entirely personal reasons, saying, "It's time to get to a recharging station sooner or later." Still, he was excited about Pandora's future, and felt he was leaving the company with a "tremendous opportunity." As the market's reaction seems to indicate, Kennedy's departure should not be a material threat to the company.
Foolish bottom line
There's a lot to like in this report, in particular, the strong monetization of the mobile segment; but the fundamental business concerns still remain. It's rare for a stock to jump 20% on a report with an EPS loss that is essentially in line with estimates.
The market's choosing to focus on the positives, but profitability is ultimately what counts. The pieces seem to be falling in the right place as mobile ad revenue grows, and the company makes more of an effort to juice the advertising market. Its recent integration with STRATA and Mediaocean Media Buying platforms should only help. The systems give advertisers access to Pandora audience ratings, which add value and precision to the ads.
Pandora's true advantage in mobile may be its uniqueness as an audio medium. Unlike sites such as Facebook, for whom a small screen is a disadvantage, Pandora benefits from the ability to appeal to users through their ears on a device that they can take with them anywhere and anytime. Its ability to leverage its mobile users should be the biggest indicator of profitability going forward. I'd also like to see continued strong growth in its subscription base, which indicates that users are willing to pay up for the service. Keep an eye on those two numbers in the future, as they should best determine the music streamer's success in the short term.