In our previous semester, we repeatedly stated our bearish position on Pandora Media (P).

Our analysis focused mainly on three key points:

– Growing competitors

– Slowing users’ and revenues’ growth

– Unprofitable Business model

Since our first report  the stock is up 50,6% and 218.88% YoY: investors feel confident about Pandora’s business. Nevertheless, it has been a turbulent early 2014 for the stock, and some of our thesis begin to be proved:

First, more and more competitors are entering the game: in October, we quoted almost ten competitors (Itunes Radio and Spotify are the most renowned); since then, Google renewed its effort preparing a YouTube streaming music service, Beats Music (leader in the headphones market) launched its own and Spotify is told to be filing an IPO. For now, Pandora is way ahead of the competition (with almost flat 70 million active users), but such powerful competitors could start from Europe and Asia – when Pandora is not represented – as well as reach faster agreements with labels.

The growth. On February, 5th Pandora slumped after forecasting results trailed analysts’ estimate:  a loss, excluding items, of 14 cents to 16 cents a share in the quarter ending in March, the company said in a statement. That compares with the average projection of analysts for a loss of 12 cents. Moreover, user base is flat around 70 million active listeners and revenues still in the $170 million range.

The Business model. Some days before the earnings, Goldman Sachs published a report in which they said the stock has the potential to more than double in the next year. How? Doubling advertising. The point is that increase the market share of U.S. Radio advertising is costly (Pandora spent $15bn by opening sales offices in the biggest cities) and margins are very low. Actually, on February, 18th Pandora rose as much as 5% in the wake of a report made by Generator Research that forecasted the number of streaming music subscribers to jump to 1.7 billion by 2017. The same report suggested also more interesting facts:

– The Business model, as it is now, won’t be ever profitable.

– The solution is selling bundles or mobile deals to subscribers that would include a package of mobile services.

– The alternative is being acquired by a company that could be able to sustain the losses (someone says Amazon) or being taken off the market. Otherwise, the company will fail.

Last but not least, the American Society of Composers, Authors and Publishers wants Pandora to pay more than its current rate of 1.85% of revenue as part of the 4% it pays for all publishing rights: last year, Pandora paid 49% of its revenue, or about $313 million, to record companies, but only $26 million to publishers. When Apple made direct deals with publishers last year for iTunes Radio, its rates were said to be about 10% of revenue.

We strongly believe that Pandora is overvalued and that, as the Goldman Sachs analyst said, “the next two years are critical”; unless you’re hoping that the tech M&A bubble will involve the stock, making it become part of the growing number of  tech frenzy stock market, we suggest to stay away from it.

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