Pandora Investors Over-React over Apple News

Pandora Investors Over-React over Apple News
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Pandora Investors Over-React over Apple News

Today, the WSJ reports that Apple Inc. (NASDAQ:AAPL) is currently negotiating license deals with record labels so it can create a competing online radio service vs. Pandora Media Inc (NYSE:P). Apple is currently the largest music retailer in the world and the move is likely being made to unseat rapidly growing streaming competitors like Pandora Media Inc (NYSE:P) and Spotify. Similar to Pandora Media Inc (NYSE:P), the service would likely be monetized by ads through Apple Inc. (NASDAQ:AAPL)’s iAd platform.

Shares of Pandora are currently trading at $10.66 in the pre-market session, or down 15.2% at the time of this writing.

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Bank of America Merrill Lynch (BAML) analysts have some interesting observations on the news. They note that  (1) if Apple is talking with record labels, they are likely going after Spotify and not Pandora, focusing on an active listening service (a Pandora like system requires no conversations/deals with record labels because all published music can be streamed via the Sound Exchange); and (2) iAd has yet to be shown to be a successful ad platform so a revenue share based model might prove difficult.

Additionally, Pandora dominates the market currently.  Pandora, currently has 72%+ market share of online radio and 6%+ share of the total radio market, partially due to its near ubiquitous device reach on over 400 different devices. It’s important to note 75% of Pandora’s current usage comes from mobile devices and although Apple’s service would likely run on devices such as the iPhone, iPad, Macbooks as well as Windows PCs that have iTunes installed, it is doubtful whether the service would be run on Android devices or likely many other consumer electronics (e.g. Smart TVs). Still Apple’s large device installed base makes it a more serious threat than other current or potential competitors. Pandora gets 40-50% of its total usage currently from iOS devices.

Today’s article is another reason not to believe Pandora’s competition is simply going to disappear. Although competitive noise continues to affect the stock (as an Apple announcement likely will), these emerging online radio players have, so
far, had no noticeable impact on Pandora’s stratospheric usage growth.

Unlike Pandora who pays a Federally mandated fixed price per song played through Sound Exchange, Apple is reportedly looking to license music directly through record labels. Directly negotiating with record labels would allow Apple to
do things Pandora cannot do such as play specific songs on demand. Although Apple has deep pockets to license quality content ($117bn in Q2 cash), I wonder how easy it will be for record labels to give even more power to Apple, their largest retail music channel.

Pandora’s Music Genome Project which utilizes ~450 attributes to describe a song and a complex mathematical algorithm to organize them using 15bn+ thumbs up/down data points is still the best way to play online music. Competing online radio services (such as iHeartRadio from ClearChannel and Spotify), use the EchoNest algorithm, which may be a solid algorithm, but without the feedback from users that Pandora has in its database, does not provide a comparable user experience.

In conclusion, Pandora investors are over-reacting to the news from Apple Inc. (NASDAQ:AAPL)

Disclosure: No position in any securities mentioned

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