Pandora Media Inc Spends $450 Million Remixing Its Business

Last week, Pandora (P) announced it had acquired Ticketfly, an online ticketing company, for $450 million. Does the move make sense, and what should investors think of the company moving forward?

A full transcript follows the video.

 

Sean O'Reilly: Big Data goes to your favorite artist's concert, on this tech edition of Industry Focus.

Greetings, Fools! I am Sean O'Reilly, joining you here at Fool headquarters in Alexandria, Va. It is Friday, Oct. 9, 2015, and with me today is the unparalleled Dylan Lewis. How's it going today, Dylan?

Dylan Lewis: Pretty good, Sean. I am ready to rock.

O'Reilly: Ah, I see what you did there. Getting right to the point here, the big story of the day: Pandora bought an online ticket company. Are they not making any money with ads? What's going on?

Lewis: Yeah. They are not profitable at the moment. It's always coming, right? They bought Ticketfly, which is an online ticketing company based out of San Francisco. The deal was announced for $450 million, a combination of stock and cash.

O'Reilly: Is it literally 50/50?

Lewis: Yeah. It looks like it's going to be half and half. They're an online ticket company; they started out in the mid-market appealing to 200- to 2,000-seat venues.

O'Reilly: Are they the smaller Ticketmaster?

Lewis: Basically, yeah. A lot of the appeal that people are looking to market events is that they have a more robust suite. Rather than simply providing a platform to sell tickets they also have some tools for analytics and social tools. It's a bit more appealing to people that are looking to market in general, and I think that's why they gained a good foothold in the mid-market, because you had these places with the smaller footprint that needed the platform to get themselves out there a little bit more.

O'Reilly: Right. In your opinion, does this deal make sense? I found it exciting because this wasn't a streaming service. It wasn't a horizontal merge, it wasn't a streaming service merging with another streaming service. This was actually a potentially useful move.

Lewis: It's always fun to talk M&A. it was interesting because the market wasn't happy about it. There wasn't a favorable reaction. I think the stock was down 4%-5% on the news. First off, let's look at the financials here and see what we're looking at. I've seen some 2014 revenue estimates of $45 million to $55 million for Ticketfly and for 2014, on 500 million ticket bookings.

O'Reilly: That's a good spread.

Lewis: You could see where they're making their commission there. One analyst estimated $75 million to $80 million in income for 2015. You look at the purchase price of $450 million, and you figure that's 7 to 9 times revenue.

O'Reilly: So this company is profitable.

Lewis: I don't know. I haven't looked at the books. Those are revenue estimates. Those are not income. For context, Pandora is looking at trailing-12-month revenue just over $1 billion. They are not GAAP profitable at the moment. They are taking a loss around $50 million. It's a nice way to boost the top line.

You look at that multiple and you see 7 to 9 times revenue, but I think when we look at the growth rate for the industry later on in the show, I'm personally bullish on it. I think some people are a little scared.

O'Reilly: I'm surprised that Wall Street didn't like this more, because as I understand it, I have a very 20-miles-up-looking-down view of the concert business, but attendance is a bit down as I understand it, and that's how a lot of artists make their money.

Lewis: Yeah.

O'Reilly: It's a profitable thing still. You can't disrupt it with online, free stuff.

Lewis: Exactly. Those are the financials. Business is, I think it's a very natural fit. Pandora's service is inherently focused on serving up content based on their music genome and all these curated user playlists.

O'Reilly: We've talked about them before, where they suggest artists.

Lewis: Their whole platform is based on very heavy curation and drilling down to user interest. You look at what their data profile is on a user and it's primarily music taste and their location. You bake in the idea of having some sort of ticketing side of that with a commission-based money-making business, and that seems to make sense.

You're leveraging users and providing them stuff that they're interested in. Business-wise it makes sense. It will be interesting to see how they integrate it. I think that might be the struggle a little bit.

O'Reilly: What did Pandora's CEO, Brian McAndrews, talk about? He said "Tickets the platform promotes in its ads often sell out instantly on the Pandora app."

Lewis: Yeah. They've had a little bit of experience selling some tickets in small batches. He was speaking at TechCrunch: Disrupt when he was talking about it. He said the platform sold 55,000 tickets to a Rolling Stones concert in 24 hours. Another 25,000 for this indie artist Odesza. There's some experience there with taking that platform and that user base -- they have about 80 million users right now -- and monetizing it, or using it to sell concert tickets. I certainly think there's some sort of attachment there.

What that looks like is hard to tell. Right now in Pandora's interface if you like a song, one of the dropdowns on the menu is to buy that song in iTunes. You can click through and be linked up to it. I could see them building something out similar, some sort of integration for ticket buying, or possibly have a page for "concerts you'd love" and things like that. I saw this really insane stat that said 40% of concert tickets go unsold.

This is something that's been floating around the Internet in the wake of this announcement. I think one of the big problems that a lot of CEOs have talked about is, the biggest problem with getting people to buy tickets might be not knowing the act is in town.

O'Reilly: Push notification!

Lewis: Yeah. Another possible avenue for this is doing something where it's like "who's in town?" Or having a push notification or an email newsletter saying "this is who will be in town this month that you like based on your selections on that."

O'Reilly: When you were doing your research, the 25,000 tickets that they sold for the indie artist Odesza; did you catch if that was first-time listeners, or if they were loyal subscribers? Did you get any feel for that?

Lewis: I wasn't sure about that.

O'Reilly: That seems like a lot of tickets for an indie artist, compared to The Rolling Stones.

Lewis: Yeah. I think that's on a tour basis. I don't think that's a single show.

O'Reilly: Before we move on to the implications of Pandora's latest acquisition, I wanted to point our listeners to a newly redesigned focus.fool.com. There you'll discover a special offer to join The Motley Fool's Stock Advisor newsletter for all Industry Focus listeners. All loyal IF listeners have access to a special discount on Stock Advisor that works out to $129 for a full two-year subscription. Just go to focus.fool.com to take advantage of this offer. Once again, that's focus.fool.com

Dylan and I are talking about Pandora's acquisition of a ticket company. Dylan talked about the deal and the merits, and Dylan, you seem to be more bullish than Wall Street, because Pandora stocks are down a bit. Why do you like the move?

Lewis: I think it's interesting, and something you hinted at in the first part of the show. It was how artists are making their money now. It's not really in selling the content or album sales. It's hardly in streaming sales.

O'Reilly: I say they're shaking off CD sales.

Lewis: Yeah. Artists are really making their money on merchandising and touring. It's interesting to see Pandora take a cue from the industry on this. Something we've talked about before on the show is that music is kind of becoming commoditized a bit. Maybe Pandora isn't as subjected to it as places like Apple (AAPL -0.57%) Music or Spotify where their offerings are very similar.

I think Pandora is a bit insulated from it, because their offering is a little different. I like the idea of them diversifying into another revenue stream. I think one of the problems we see with Pandora right now is they have a cost structure that is very dependent on the Copyright Royalty Board rulings.

Everything for them cost-wise is based on whatever accepted royalty rates are. That poses a huge problem if you can't get your ad rates above it to work out on a scalable basis.

O'Reilly: Which are, of course, market based, not committee based. Have fun with that.

Lewis: It puts you in this very weird dynamic. It's part of the reason they're not profitable right now. Another thing with Pandora is that 80% of their revenue is coming from ads. Something like this would lessen the reliance on ads.

O'Reilly: That's low. I thought it would be higher.

Lewis: They do have the subscription business, and they have the referral sales on songs. Another thing we talk about in the show a lot is that I like businesses that have a utility and are not simply ad reliant. Seeing them open up a revenue stream that actually has a social utility...

O'Reilly: This could be really good for them.

Lewis: You're selling tickets and you're gaining commission on those tickets, and there's a lot of value there, and you're not hoping that advertisers are seeing an ROI on placements.

O'Reilly: Real quickly for our listeners, what does the concert industry look like right now? That's the interesting point about all this.

Lewis: This was something I didn't know much about before I started researching this show and was baffled. Pollstar, which is an industry firm that takes a look at stuff like this, estimated that the concert industry was worth $6.2 billion in 2014, which was up nearly 25% from 2013.

O'Reilly: I have a theory that the concert industry has been growing like this -- look where it in the early 2000s, when I went to high school. It was half of this. Less than half.

Lewis: It's insane.

O'Reilly: I think it's because the music industry's CD sales are getting destroyed by the Internet and streaming. It's also exposing us to way more artists. Way more. The amount of content that we're getting right now is astronomically more. What's a subscription for the premium -- $10 a month?

Lewis: Yeah, depending on the provider. Spotify is $10 a month, Apple Music is $10 a month.

O'Reilly: That's $120 a year. Ten years ago, that would have bought you 10 CDs.

Lewis: If you're lucky.

O'Reilly: If you're lucky.

Lewis: Users aren't spending that money on CDs now, and I think there's a movement toward supporting artists and going out and seeing them. I think it's part of the reason we're seeing this rise. With that kind of growth comes a huge opportunity. You look at what's going on in the landscape, and I think it's an industry that's pretty ripe for disruption.

You basically have one major player, Ticketmaster, which is owned by Live Nation (LYV -2.37%). In the past year I've seen some reports saying they've processed nearly 450 million tickets worth somewhere around $23 billion.

O'Reilly: Oh my gosh! Before we move on, can you give me a feel for the company that Pandora bought? What kind of venues are these artists playing at? It's not like the Verizon Center like Taylor Swift; it's more of the smaller venues that have room for 400 people, right? Did you get any sense of that?

Lewis: Yeah. They carved out their niche in 200- to 2,000-person venues. Living here in D.C., I've bought a lot of tickets off Ticketfly.

O'Reilly: So you have experience with them?

Lewis: Yeah. It's a great platform. It's no different than using Ticketmaster. It's perfect for those venues. I see it a lot. Tickets that are somewhere in the neighborhood of $15 to $40. You see a lot of Ticketfly events.

O'Reilly: Just going out on a Friday night.

Lewis: Exactly.

O'Reilly: What are the criticisms of this? Why didn't the stock jump? Why don't they see the opportunity?

Lewis: I think some people are a little concerned about taking on Ticketmaster, owned by Live Nation, and trying to take down someone that's so established in the place. I don't see it, especially with such a huge growth opportunity in the industry. Talking about how many unsold tickets there were before, there's a lot of market there that's not being captured. I like the fact that it's not a very fragmented space. I think it's a lot easier to chip away at one big player and carve yourself out, whereas if you're coming into a landscape like 10 mid-level players it's a little tougher.

O'Reilly: What were their revenues -- $500 million? Their revenues were $80 million, but they're not even competing directly with Live Nation, per se, or Ticketmaster. It's different artists.

Lewis: Yeah. It's very venue dependent as well. Some smaller places just aren't going to work with Ticketmaster because they don't have the scale to make it work. That's another thing to keep in mind.

O'Reilly: Bringing it back around, what's the outlook for Pandora now?

Lewis: They've been moving around a lot lately. Late September the stock surged, which was largely driven by one of the U.S. Copyright Office's panels deciding that a relationship they have -- a royalty agreement with Merlin, which is an Indie label rights agency -- was considered a reasonable benchmark for future royalty rate negotiations. It wasn't a lawsuit. It's more of a panel deciding this is an acceptable precedent.

The big thing coming down the pike for Pandora, and something that's been widely reported on, is the Copyright Royalty Board and the Webcasting IV decision that's coming out in December will be setting royalty rates for the next five years. You're going to get a very firm idea of what Pandora's cost structure looks like around then.

The reason the stock popped earlier this fall is because the relationship that Pandora has with Merlin is much more favorable than what SoundExchange -- which represented at the group -- is calling for. It's about half the rates right now. You could see a dramatic swing depending on which direction that decision goes. I am a Pandora shareholder; I bought it a while ago.

O'Reilly: Full disclosure.

Lewis: Full disclosure, I think that's worth noting. My cost basis is well below what it's at right now. I'm holding. I think it would be wise to stay on the sidelines right now because there is a very binary aspect of the business in the coming months. If you're buying Pandora right now you're setting yourself up to either -- you don't really know what the cost structure is going to look like. I wouldn't want to subject myself to that.

O'Reilly: Yeah. The big decision is in December with the Copyright Royalty Board deciding Webcasting IV and the royalty rates for the next five years. The ruling that caused the stock to pop in September, was that a preliminary "this is what we're thinking" type of thing? What was that in relation to what will happen in December?

Lewis: It's just identifying what can and can't be considered for these negotiations. It's like, what's acceptable in terms of precedent?

O'Reilly: All right. Thanks for your thoughts, Dylan.

Lewis: It's always a pleasure, Sean.

O'Reilly: Have a good one.

Lewis: You, too.

O'Reilly: If you are a loyal listener and have questions or comments, we would love to hear from you. Just email us at [email protected]. Again, that's [email protected]. As always, people on this program may have interests in the stocks that they talk about, and The Motley Fool may have formal recommendations for or against those stocks. So don't buy or sell anything based solely on what you hear on this program. For Dylan Lewis, I'm Sean O'Reilly. Thanks for listening, and Fool on!