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Why Pandora Media, Inc. Stock Plummeted as Much as 40% Today

By Steve Symington - Oct 23, 2015 at 1:55PM

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The music streaming specialist just announced a what appears to be a disappointing quarter. But was it really?

What: Shares of Pandora Media (P) dropped as much as 40% Friday morning and were down 35% at 2 p.m. after the music streaming company released third-quarter results, reduced guidance, and revealed a settlement related to royalties on older music.

So what: Quarterly revenue increased 30% year over year to $311.6 million -- within Pandora's guidance for $310 million to $315 million -- including 36% growth in mobile revenue to $255.2 million. Advertising revenue also grew 31% year over year to $254.7 million, or 81.7% of Pandora's total sales, including a 52% increase in local advertising revenue to $63.5 million.

Adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) rose 27% year over year to $30.6 million, above Pandora's guidance for $25 million to $30 million. Meanwhile, adjusted net income rose 12.7% to $22.9 million, or $0.10 per diluted share.

Similarly, analysts' consensus estimates predicted the same adjusted earnings per share on slightly higher revenue of $313 million.

So why the drop? For one, Pandora also announced a $90 million settlement related to Pandora's use of recordings created before 1972. This resolves an outstanding dispute brought against Pandora by several record labels, and covers roughly 90% of total pre-1972 music played on the service both in the past and through the end of 2016. Consequently, Pandora recorded a $57.9 million charge during the quarter for spins played through the end of September, with the remaining $32.1 million to be recorded between the beginning of this month and the end of next year.

But arguably more concerning was the fact Pandora's number of active listeners rose a modest 2.1% year over year to 78.1 million, and declined sequentially, from 79.4 million active listeners last quarter. To Pandora's credit, those users have proven increasingly loyal, as total listener hours grew 3% to 5.14 billion, continuing to outpace growth in the actual number of active listeners.

Referencing the launch of Apple Music in June, Pandora CEO Brian McAndrews noted during the subsequent conference call that while they weren't "seeing any meaningful listener impact" as of last quarter's report, the company did want to warn of the potential for some short-term impact to listener growth.

"I am pleased to say that, given the scale of press and consumer attention on this launch," McAndrews elaborated, "the impact on our active users and listening hours was muted and was, in fact, consistent with what we experienced during the launch of Apple's radio service in 2013."

Now what: Given today's massive pullback, let it suffice to say investors aren't quite as optimistic about Pandora's chances to effectively compete with Apple Music going forward.

But it also didn't help that Pandora also revised full-year 2015 guidance for revenue in the range of $1.153 billion to $1.158 billion (a slight reduction from the previous range of $1.175 billion to $1.185 billion), and adjusted EBITDA of $51 million to $56 million (down from $75 million to $85 million previously).

For perspective, though, keep in mind on the heels of its solid Q2 showing, Pandora stock had climbed nearly 40% in the three months leading up to yesterday's close. So while undoubtedly painful, this steep drop has merely brought shares back to levels not seen since July. Over the long term, I'm inclined to trust Pandora management that the influence of competitors will be short-lived, and its moves to bring royalties to a more predictable state will ultimately pay off.

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