While the 40-hour mobile listening cap and skipping limits resulted in softer listening hours growth in 2Q, this was largely intentional and should result in lower content costs though immaterial revenue impact (given excess mobile ad inventory), and hence should drive EBITDA upside. Raymond James maintain their Outperform rating and positive fundamental outlook on Pandora Media Inc (NYSE:P) given firm’s expectation for continued market share gains and increasing mobile monetization and operating margin expansion.

Pandora

2Q Expectations for Pandora:

Pandora Media Inc (NYSE:P) is scheduled to report 2Q14 results on Thursday, August 22nd. Analysts estimate F2Q14 revenues (quarter ending July) of $157.5 million (56% y/y vs. 59% y/y in 1Q), modestly above consensus of $156.3 million and in-line with guidance of $155-160 million. They expect advertising revenues of $132.6 million (48% y/y vs. 49% y/y in 1Q), and subscription/other revenues of $25 million (110% y/y vs. 130% y/y in 1Q). Analysts have modeled content costs of $86.4 million (55.9% of revenues) though believe content costs should come in closer to $75 million based on updated listening metrics (lower listening hours from mobile cap and limiting number of skips). They are modeling adjusted EBITDA of $7.3 million (likely will prove conservative given lower content costs), above consensus of $4.2 million, and non-GAAP EPS of $0.02 in line with consensus of $0.02 and above the high end of guidance of $(0.02)-0.01.

Change in listener metrics

Active listeners were 71.2 million at the end of 2Q, up 30% y/y vs. up 35% y/y in 1Q but below research firm’s estimate of 73.1 million. 2Q actual total listener hours were 3.88 billion (up 18% y/y vs. 35% y/y in 1Q), below firm’s estimate of 4.39 billion hours (up 33% y/y). Additionally, Pandora Media Inc (NYSE:P)’s share of U.S. radio listening was 7.08% in July, up from 7.04% in June and up from 6.13% a year ago. Analysts believe the softer listener hour growth in 2Q is largely attributable to the 40-hour listening cap on mobile (implemented in March) and more limited skipping (implemented in June), and point out similar declines in 2009 when Pandora instituted a cap on desktop listening. While listener hour growth was significantly below their estimate, analysts believe the impact on revenues will be much smaller or potentially no impact given the lower sell through rates on mobile today (hence sell through rates should increase in 2Q on a lower denominator).

Expect Strong RPM increase Driven by Increasing Mobile Ads and Lower Listening Hours.

Driven by increasing mobile monetization (increased sell through of local audio ads and more positive 2Q seasonality) as well as the lower listening hours, analysts at the firm expect strong growth in RPM (Revenue per 1000 listener hours) in the quarter. They have modeled a mobile RPM of $28.16 (27% y/y vs. 30% y/y in 1Q), though they believe RPM will come in closer to $34 (~50% y/y) based on Pandora Media Inc (NYSE:P)’s updated listening metrics.

Key Points

1) Listening Hours – while softer than estimates, how much of decline was intentional (i.e. mobile cap, skipping limits); 2) Mobile monetization – improved significantly last quarter and analysts expect continued strength in 2Q; 3) Content Costs – analysts believe content costs should come in lower than estimates due to the implementation of the mobile listening cap and limits on skipping; 4) Local sales teams’ build-out and integration with radio ad buying platforms; and, 5) CEO search update.