As a leader in online radio, Pandora Media Inc (NYSE:P) has done a remarkable job of revolutionizing the way listeners consume music. The company makes use of a proprietary algorithm that analyzes songs based on 450 different attributes, and in conjunction with a collective feedback process from listeners (data points from listeners giving a “thumbs up” or “thumbs down”) to serve personalized songs, in the form of playlists, to listeners. Anyone who has used Pandora Media Inc (NYSE:P) knows how good its algorithm is: not only is the website a fantastic place to listen to music for free, but it is also an interesting way to discover songs that fit a listener’s taste in music nearly perfectly.
Pandora Media Inc (NYSE:P) currently derives its revenues from advertisements and subscriptions. Listeners can listen for free and put up with advertisements or pay $36 for an annual premium subscription. Thanks largely in part to the viral nature of the free business, the company now has over 75% of the internet radio market share, in terms of listening hours. iHeartRadio is the next closest in terms of share, with about 10% of listener hours, and the remaining 15% is split between smaller providers such as Cumulus Internet Radio and CBS Internet Radio.
That’s about where the good news ends. While Pandora Media Inc (NYSE:P) offers a good product, its business model doesn’t work. The troubles started in 2012 when the music industry fought against the company for playing music and not paying enough fees to those who held the rights to the music. As a result, the Internet Radio Fairness Act was passed by Congress in attempts to ensure fairness in the amount of revenues that accrue to internet radio companies (Pandora Media Inc (NYSE:P)) and satellite radio companies like Sirius XM Radio Inc (NASDAQ:SIRI). The cost of music has been a nagging issue for Pandora Media Inc (NYSE:P) ever since, and the company loses more than 50% of its revenues to royalty payments. Today, thanks to content costs, Pandora’s current business model has limited operating leverage and scale. While most investors are focused on analyzing the company’s listener hours’ growth, these sky high content costs are also largely driven by listener hours.
Whatever happened to Sirius XM Radio Inc (NASDAQ:SIRI)?
In the world of streaming music, the other large player that comes to mind is Sirius XM Radio Inc (NASDAQ:SIRI). Sirius XM Radio Inc (NASDAQ:SIRI), a satellite radio operator with more than 170 channels dedicated to providing music, sports commentary, comedy, and other forms of broadcast for the US and Canadian markets, had over 24.4 million subscribers (in comparison to Pandora’s 125 million users) at the end of the first quarter of 2013. Sirius XM Radio Inc (NASDAQ:SIRI) charges up to $17 per month for unlimited songs.
The company is also working on strengthening the most vital part of its business, its partnerships with the automotive industry, and has recently signed partnerships with several thousand used car dealerships. It’s clear that the near-term success of the company relies heavily on the success of the automotive industry – this is a leading reason why the stock should be avoided at this time. While it seems cheap at $3.24 per share, company management has given investors no good reason to believe that the company will break out with any groundbreaking innovation.
Pandora, Sirius XM Radio Inc (NASDAQ:SIRI), and the rest of the streaming music companies are tied to Apple Inc. (NASDAQ:AAPL), now that it has an internet radio service. In addition, iTunes is rapidly gaining in the listener market at the expense of internet and streaming music companies. Apple Inc. (NASDAQ:AAPL) unveiled iTunes Radio at its Worldwide Developers Conference. A few key points emerged: 1) iRadio will be completely free; thus competing with Pandora directly by going after free subscribers. 2) iRadio will be built directly into the iOS7 software update that will be rolled out to users this fall and 3) the company already has contracts with major automakers, an additional negative for Sirius XM.
At this point, it would be difficult to pinpoint exactly whether or not Apple Inc. (NASDAQ:AAPL)’s iRadio initiative will succeed or fail. But the rapid pace and aggressiveness with which Apple Inc. (NASDAQ:AAPL) is going after the music industry gives investors an even better reason to short sell Pandora.
Colin Tweel has no position in any stocks mentioned. The Motley Fool recommends Apple. The Motley Fool owns shares of Apple. Colin is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
The article The Future of Streaming Music originally appeared on Fool.com is written by Colin Tweel.
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