Pandora Media Earnings: Deep Stock Analysis and the Threat of Apple

The following is an excerpt from a report compiled by Michael Pachter of Wedbush Securities.

Pandora (NYSE:P) Q3 beat from solid mobile monetization, subs revenue, and cost control. Revenue was $120 million vs. our estimate of $121 million and guidance of $115 –118 million. Non-GAAP EPS was $0.05, vs. our estimate of $0.03 and guidance of $0.00 – 0.01. The Q3 beat was driven primarily by better-than-expected mobile monetization, subscription revenue, and cost control.

Management lowered full-year guidance. Pandora lowered FY:13 guidance for revenue to $422 – 425 million from $425 – 432 million and for non-GAAP EPS to $(0.12) – (0.09) from $(0.08) – (0.04).  At the midpoint, Q4 revenue guidance was lowered to $8.5 million from prior implied guidance; the “fiscal cliff” has apparently limited advertisers’ willingness to commit to spending in January. It is our view that issues surrounding the “fiscal cliff” will be resolved early in January, and that ad spending will return to normalized levels by Pandora’s Q1:14.

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Adjusting our estimates. We are decreasing our FY:13 estimates for revenue to $427 million from $432 million, and for EPS to $(0.09) from  $(0.04) to reflect guidance and Q3 results. We are decreasing our FY:14 estimate for revenue to $536 million from $580 million and non-GAAP EPS to $(0.12) from $0.25 to reflect more moderate advertising revenue growth assumptions and higher content costs.

CEO Joe Kennedy recently testified at the first in a series of congressional hearings on music licensing. We have not modeled meaningful changes to Pandora’s cost structure going forward, as we expect Congress to favor musicians’ rights, and expect any legislation to address the inequity of free distribution rights for terrestrial radio before addressing the inequity between rates paid by Internet radio distributors and digital radio distributors that pay lower rates than Pandora. Should the rates drop for Internet radio distributors, Pandora would benefit immensely, but the lower rates may attract new entrants to internet radio.

We think that unsubstantiated reports of Apple’s (NASDAQ:AAPL) entry into Internet radio may have merit.  Apple’s purported entry will occur in early 2013, according to news reports from Bloomberg and the Wall Street Journal.  We think Apple could take as much as 15% share from Pandora over time, should it launch a similar service.

Reiterating our OUTPERFORM rating and 12-month price target of $10. Pandora’s superior growth outlook is partially offset by the potential for increased competition, with an entry by Apple likely to materially impact Pandora’s market share. Our price target reflects a multiple of 25x likely CY:15 EPS of $0.40.

Michael Pachter is an analyst at Wedbush Securities. 

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