Pandora’s stock jumped 12 per cent to $11.60 after mobile ad sales were greater than expected. CEO Joe Kennedy told Wall Street that 55 per cent of his ad revenue now comes from mobile, and mobile advertising is a fast-growing part of the business.All that good news, however, drowned out the bad news that’s as plain as day in Pandora’s numbers: Its business model still isn’t working—it lost $20.2 million in the quarter, worse than a $6.7 million loss the year before—and it’s deteriorating rather than getting better.
None of this is new, but it’s worth reiterating given that the stock is rising even though Pandora’s performance as a money-making business gets worse. This chart tells the whole story. It shows that Pandora’s revenues are falling behind its operating costs:
Previously, Pandora’s costs and revenues moved in lockstep. That suggested the company might be able to become profitable if it could find a way to incrementally cut its costs or raise its revenue.
In Q1 2013, however, revenue growth slowed while expenses accelerated. The main culprit: The royalties Pandora must pay on each song it plays. Those costs nearly doubled to $101 million. On their own, Pandora’s royalty fees are greater than the $80.7 million it earned in total revenues.
The earnings report indicates that the vicious cycle within Pandora’s model is getting, well, more vicious. I’ve said this before: Every time Pandora plays a song it must pay a licensing fee to the artist who created the music. Therefore, Pandora must make more money on the ads it shows its users than it pays in song royalty fees. The problem is that each new user plays more and more songs, generating more and more fees. So Pandora must find more and more advertisers to cover that. Of course, advertisers want the largest audience possible. But a larger audience generates larger song fees … it never ends.
The only reason Pandora was cashflow positive was because of a $28 million windfall from “Maturities of short-term investments.” Financial engineering rather than music or advertising, in other words.
Unless Pandora can raise ad prices—and there’s reason to believe that mobile ads actually lower them— or increase the number of ads it plays to listeners, this company will remain in real trouble.
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