Is Pandora Panicking; Should Investors?

NEW YORK ( TheStreet) -- I write this from one of the most vibrant environments in the world -- Wall Street. Right across from the New York Stock Exchange. At TheStreet, if I may speak for an entire organization, we like to call the TST headquarters a key hub in Cramerica.

The original reason for my journey no longer exists.

I was supposed to do an on-camera interview with Pandora ( P) co-founder and Chief Strategy Officer Tim Westergren, but, instead, the company opted to connect me with Westergren via telephone Thursday morning.

Readers, particularly those who follow me on Twitter and saw me promote the Westergren interview, deserve an explanation.

Long story, short -- Westergren and I had been communicating via email. Together, we hatched the idea to do an interview on leadership in perpetual startups such as Pandora.

I let Pandora know that I would be asking about two crucial and very topical issues as part of my time with Westergren -- royalties and the competitive threat from Apple ( AAPL). Everything was a go.

But then both the royalty story and competitive threat angle blew up with a Westergren blog post and Microsoft's ( MSFT) xBox Music announcement.

The interplay of those two factors shifted the interview's focus from the original discussion to royalties and competition. As a result, Pandora opted to cancel and shift to a phone interview.

To be fair, Pandora told me they wanted the change simply because of the move away from the originally agreed upon topic, not because of the sensitive content. While the folks at Pandora assured me they're insistence on the phone interview was simply because of the change in topic, it's hard for me to believe the new emphasis on royalties didn't have something to do with it. But whatever the cause, that decision led me to pause and reflect on my bullishness.

Here's my take.

Westergren created issues for Pandora when he decided to run the above-linked blog post. This is the widely publicized one where Pandora discloses how much money it pays individual artists.

Pandora claims it pays musicians you've never heard of up to $100,000 a year, while the company noted that it sends annual Pandora-generated income of over $1 million to the likes of Coldplay and Wiz Khalifa and nearly $3 million to Drake and Lil Wayne.

According to Billboard, however, Pandora was fast and loose with its prose in the Westergren blog post. The artists mentioned receive roughly 45% of these royalty payments. Pandora sends the money to SoundExchange, who pays the artist, the label and other musicians.

Pandora didn't purposely mislead anybody. Westergren told me this morning that if he had it to do all over again, he would have picked his words more carefully. He stressed, however, that he wanted to focus on the size of the payments, noting that "a lot of these artists" are their own label; as such, they receive more than 45%.

That said, Pandora has done well in the early stages of an advocacy campaign aimed at gaining traction for federal legislation that would bring a more equitable royalty structure to Internet radio.

The aforementioned blog post represents a classic case of pressing your luck. The fact is bears -- and even highly sympathetic bulls -- can poke holes in that blog post all day long. It raises too many difficult questions.

For instance, If Pandora is on the side of musicians, why is it, for all intents and purposes, advocating a pay cut?

While I wish he would have agreed to do it on camera, I have to give Westergren credit for how he answered this over the phone. He acknowledged that it's an "uncomfortable discussion," but it's one that "we have to have."

He argues that, over the long-term, a more equitable royalty rate for Pandora will lead to bigger, not smaller payments for artists. At this point, that's all conjecture; nobody knows how things will play out.

Again, why raise these questions at the beginning of an otherwise solid and so-far successful lobbying effort in Washington? While I appreciate Westergren's point, he could have waited until deeper in the legislative process to make these points. It would have flown better on Capitol Hill next summer than it has on Wall Street today.

As far as the latest competitive threat from Microsoft goes, it's deja vu all over again. Short-term noise. I adequately addressed those concerns earlier this week in Apple, Microsoft Need to Innovate, If They Can.

I am selling around and at-the-money calls against my Pandora position. That means I could be forced to sell a majority of my shares at $9 a share by the end of the week. Even though my cost basis on the stock is $10.19, I am OK with this.

Because I have been consistent and aggressive in my covered call writing, by selling at $9, I actually come in just shy of breakeven when you combine the loss on the stock position and the income collected by writing covered calls. Plus, with this shroud of negativity that Pandora cannot seem to kick, I should be able to renter the position prior to earnings in the single digits.

In summary, it does concern me that Westergren declined to appear on camera. We'll get together in the future, but it would have looked better answering these questions in front of the lights as opposed to on the telephone.

As far as the stock goes, I am not dying to get back in it, however, the long-term story still remains intact. Through all of the noise, growth at Pandora has not taken as much as a breather.

As a speculative play, Pandora still stands as one of the better choices for aggressive long-term investors, particularly those willing and able to hedge with options.

At the time of publication, the author was long P.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.
Rocco Pendola is a private investor with nearly 20 years experience in various forms of media, ranging from radio to print. His work has appeared in academic journals as well as dozens of online and offline publications. He uses his broad experience to help inform his coverage of the stock market, primarily in the technology, Internet and new media spaces. He has taken a long-term approach to investing, focusing on dividend-paying stocks, since he opened his first account as a teenager. Pendola, 37, is based in Santa Monica, Calif., where he lives with his wife and child.

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