Susquehanna International Group analysts Brian Nowak and Michael Costantini highlight Pandora Media Inc (NYSE:P) and ASCAP’s trial.
Tom Claps, our litigation analyst on SIG’s Event-Driven/Special Situations Desk, was in Federal Court in NYC yesterday (1/21) to observe the opening arguments in Pandora and ASCAP’s trial. Tom will continue distributing daily midday updates over the course of the trial.
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Pandora Media Inc (NYSE:P) vs ASCAP: Royalty rates
The issue in question is the royalty rate Pandora pays ASCAP for music publishing rights. Pandora Media Inc (NYSE:P) currently pays ASCAP ~1.85% of gross revenue less an undisclosed advertising cost. ASCAP wants to increase the rate Pandora pays to 3% by 2015 (Fig 1). Note that any 2013 increase in ASCAP rates (as ASCAP is arguing for) above 1.85% of revenue would also lead to a catch-up payment by Pandora. ASCAP is basing these higher rates on Pandora’s current rates it pays independent publishers, Pandora’s current rates to SESAC, and Apple Inc. (NASDAQ:AAPL)’s current rates.
Pandora Media Inc (NYSE:P) is arguing it should only pay 1.7% of gross revenue less the undisclosed advertising cost, in-line with what terrestrial radio stations currently pay ASCAP. ASCAP argues that Pandora should not be treated as a terrestrial station as it plays/uses more musical content than terrestrial radio stations (which play news, talk, sports, weather, and other non-music content). In one set-back for Pandora, the Court yesterday stated it would not allow Pandora to consider its pending South Dakota terrestrial radio station acquisition as part of its argument to pay a lower ASCAP fee (closer to terrestrial radio stations). Pandora can re-raise the argument after the acquisition closes, but that is currently being held up by the FCC.
Pandora Media Inc (NYSE:P)’s ASCAP rate to remain steady
In our model, we expect Pandora Media Inc (NYSE:P)’s ASCAP rate to remain steady at 1.85% in 2014, but there is a wide range of outcomes (see Fig 2). If Pandora’s rates fall to 1.7%, it would add ~$1.1mn (1%) to our 2014 EBITDA (assuming 80% flow-thru) and if ASCAP wins and rates rise to 3%, it would reduce EBITDA by $12mn or 11% (again at 80% flow-thru). We have ignored the undisclosed ad cost deduction, implicitly assuming it stays constant.
Pandora Media Inc (NYSE:P) often trends on ad driven beats, but a path toward profitability matters too, so the outcome of this case could impact daily volatility. We intend to continue monitoring the case (with, as mentioned above, daily updates) and expect a ruling by mid-February.