Pandora’s 2013 Focus is On Innovation, Penetration, Not Profit

Pandora said it will lift its 40-hour-per-month listening cap on mobile devices on Sept. 1 due to growth in mobile advertising revenue. The company had imposed the listening limit in March on free accounts to help pay for surging royalty costs. CEO Joseph Kennedy said on the company’s earnings call Thursday that the cost of content “decreased dramatically” as a percentage of revenue, from 59 percent in Q2 last year to 51 percent this year. Pandora said it’s now the third-largest generator of mobile ad revenue behind Google and Facebook.

Chief Financial Officer Mike Herring said Pandora doesn’t anticipate “dramatic growth” in new subscribers for the rest of the year as a result of the removal of the cap on listening hours. Pandora expects subscription revenue to account for roughly 20 percent of total revenue for the year, he said.

The listening cap affected less than 4 percent of Pandora active users, and the company will use “multiple additional levers” to manage content costs, executives said. Among those is the “skip limit” Pandora has imposed that allows free Pandora accounts six skips per hour per station, for up to 12 total skips per day across all stations, according to the website. “The daily skip limit helps us prevent having to pay royalties on songs that are not being heard,” according to the website. A “skip” is defined as a skipped song, a “thumbs-down” rating, or choosing “I'm tired of this track” on the music player menu, it said. “Licensing is one of the most expensive aspects of providing the service, and we must pay the full royalties for a song, even if it only plays for a few seconds,” the company said.

The company has added back-to-back ads to the free service and so far hasn’t seen negative reaction from listeners to the increased ad load, Herring said. The company believes it can increase the ad load more extensively than it is now “without dramatic impact” on listenership, he said.

For the second half, Pandora plans to grow investment in operating capacity with a focus on “product innovation, market penetration and top-line growth -- rather than profitability,” Kennedy said. The Q2 strategy to balance growth and cost with the limit on listening hours achieved its goal “while having very little impact on listeners or our ability to grow revenue,” he said. Total listener hours grew to 3.88 billion for the quarter, up 18 percent from the year-ago quarter, he said.

Pandora’s share of U.S. radio listening advanced from 6.02 percent in July 2012 to 7.08 percent in July 2013, Kennedy said. Active listeners jumped from 54.9 million to 71.2 million during the period. The company was “surprised” that at the early stage of consumer adoption of connected devices that 13 percent of usage comes from a connected device “other than a smartphone or PC,” Kennedy said. Herring said Pandora has a 70 percent share of the U.S. Internet radio market. In July 2013 listeners logged more than 1.28 billion listening hours, or an average of 17 listening hours per month per user, Herring said. Total subscriber count is roughly 3 million, according to Herring.

Pandora launched in the automotive market in 2010, and since then users have activated the service 2.5 million times in 100 models across 23 car brands and through eight aftermarket makers, Kennedy said. The company estimates that a third of new cars sold in the U.S. this year will have Pandora capability. The service will also be available soon on Google’s Chromecast device, he said.

Herring said Pandora drew on its line of credit for the first time in the quarter with a draw of $10 million related to the $8 million acquisition of a “broad patent portfolio” from Yahoo. The portfolio includes Internet radio patents dating back to the late 1990s which includes technology developed at Launch Media and used in the MusicMatch Jukebox. The patents will enable Pandora “to further reinforce our intellectual property strategy around Internet-delivered music content,” Herring said.

In an 8-K filing, Pandora said it has changed its fiscal year-end from Jan. 31 to Dec. 31 and that fiscal year 2013 will be shortened from 12 months to 11 months, ending on Dec. 31, 2013. Herring said the change was made to align Pandora’s business calendar “with that of the advertising industry’s normal cycle."

For the quarter, Pandora had revenue of $157.4 million, a 55 percent bump year-over-year. Advertising revenue was $128.5 million, up from $89 million in the year-ago quarter, while subscription and other revenue grew to $28.9 million from $11.9 million. Pandora’s loss for the quarter widened to $7.8 million from $5.4 million. Pandora shares fell 12.9 percent Friday to $18.90.