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Pandora Falls 20% as Q3 Loss Mounts, Cuts View for 2015

Zacks Equity Research

Shares of Pandora Media, Inc. P plummeted over 20% in after-hours trading yesterday following the company’s third quarter 2015 results. Not only was the company’s reported loss much higher due to a one-time royalty settlement, revenues also failed to meet expectations. Furthermore, investors were disappointed as Pandora lowered its revenue guidance for 2015.

This quarter has been a difficult one for Pandora. The company’s content acquisition costs escalated significantly as it had to shell out $90 million in a settlement with record companies for pre-1972 recordings. This resulted in a GAAP loss of 40 cents a share this quarter, much more than a loss of 1 cent in the prior-year quarter. To add to this, the company witnessed a slowdown in subscriber growth this quarter, following the launch of Apple’s AAPL Music service. Apple’s aggressive marketing strategies, such as the three-month free trial plan, particularly impacted Pandora’s user base.

Nonetheless, on an adjusted basis (including stock-based compensation but excluding one-time items), Pandora’s loss of 2 cents per share compared favorably with the Zacks Consensus Estimate of a loss of 4 cents. But then, revenues of $311.6 million missed the Zacks Consensus Estimate of $312 million despite improving 30% year over year.

 

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Quarter Details

Revenue growth in the quarter was on account of higher advertising revenues (81.1% of revenues), which increased 31% from the year-ago quarter to $254.7 million. The company’s mobile revenues came in at $255.2 million, improving 36% from the year-ago quarter. Revenues from local advertising improved 52% year over year to $63.5 million.

Subscription service and other revenues (18.9% of revenues) also improved 26% year over year to $56.9 million.

Active listeners increased 2.1% year over year to 78.1 million but declined 1.6% sequentially from 79.4 million in the last quarter. Total listener hours grew 3% on a year-over-year basis to 5.14 billion. 

Total revenue per thousand listener hours (RPM) was $60.52 in the quarter, up 26% from the year-ago quarter. The company’s total advertising revenues per thousand listener hours (Ad RPMs) increased 28% from the year-ago quarter to $56.84 in the reported quarter.

Margins

Adjusted gross margin (including stock-based compensation but excluding amortization and other one-time items) expanded 451 basis points (bps) to 51.6%, primarily due to improved monetization in the quarter.

Pandora paid more than $211 million in content acquisition costs that is 67.8% of revenues in the quarter. 

Operating expenses (including stock-based compensation), as a percentage of revenues, surged 493 bps to approximately 43.6% in the quarter. The significant year-over-year increase was primarily due to higher sales & marketing, product development expenses and general and administrative expense in the quarter.

Pandora reported GAAP operating loss of $85.9 million compared with a loss of $2 million in the year-ago quarter.

Balance Sheet & Cash Flow

Pandora exited the quarter with $363.6 million in cash and investments compared with $354.6 million as on Dec 31, 2014. In the quarter, cash from operating activities was $11.9 million, higher than $5.2 million in the year-ago quarter.

Outlook

Pandora provided outlook for the fourth quarter and full year 2015. However, the guidance does not take into account the Ticketfly acquisition.

For the fourth quarter of 2015, revenues are expected in the range of $325 million to $330 million. The company expects adjusted EBITDA to be in the band of $25 million to $30 million. Stock-based compensation expense of about $32 million and depreciation and amortization expense of $6 million are excluded from the forecasted adjusted EBITDA.

For 2015, revenues are now expected in the range of $1.153 billion to $1.158 billion, lower than the earlier projection of $1.175 billion to $1.185 billion. Adjusted EBITDA is forecast to be in the range of $51 million to $56 million (previous projection was $75 million to $85 million). The figure does not include an estimated stock-based compensation expense of $111 million and depreciation and amortization expense of $22 million.

Our Take

Pandora’s business is being impacted by mounting competition from Apple Music but the long term effect of the latter can only be determined once the free trial period ends.

Also, rising costs related to licensing and higher operating expenses remain a near-term concern.

Nonetheless, increasing demand for music streaming, improving monetization (especially from local ad revenues) and strong mobile growth are the key positives.

Recently, the company also declared its plans to acquire ticket provider, Ticketfly for $450 million in a deal that is expected to be completed by the end of the year. The combination of Pandora and Ticketfly will ensure that fans know when bands or artists are in town and will also sell tickets. It will let artists know where people gave them a “thumbs up” on Pandora’s platform. The purchase is expected to put Pandora’s platform at the top when it comes to independent artist marketing.

Currently, Pandora sports a Zacks Rank #1 (Strong Buy). But after the quarterly results, estimates will likely move downward, which could lead to a revision of its rank. A couple of other companies that may be considered instead are MeetMe MEET and Majesco Entertainment COOL, both sporting the same Zacks Rank as Pandora.

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