Will Pandora Ever Make Money?

NEW YORK (TheStreet) -- Pandora (P) investors panicked when Apple (AAPL) announced iTunes Radio, effectively proclaiming the tech giant's entry into the already crowded realm of Internet music.

Pandora, already in a heated battle with, among others, Spotify and Sirius XM ( SIRI), had figured out ways to keep growing its popular service, albeit amid some "fading notes."

Last week, the company announced total listening hours for the month of August rose 16% year over year to 1.35 billion hours. The number of people that sign on to the service each month also increased, by almost 30% to 72.1 million, which represents 1% sequential improvement. What this means is that, with a year-over-year improvement of 116 basis points, Pandora now accounts for 7.5% market share of the U.S. radio listening audience.

This is impressive growth. Admittedly, I haven't been Pandora's biggest supporter. But there is no way to spin this performance without giving the company its due credit. Unfortunately, however, making money has not been one of Pandora's strengths, despite such solid growth and meaningful market share.

Now, with Apple's iTunes Radio, not to mention Google's ( GOOG) All Access service fully in the mix, it just doesn't seem as if Pandora's top-line performance will ever trickle down to profits.

What this means is that,as hard as Pandora has worked to survive the attacks by Sirius, Spotify, iHeartRadio, Last.fm and a host of other Internet rivals, Pandora will now have to double down on its efforts to secure a meaningful chunk of the $4 billion per year U.S. mobile ad market. I believe this should be one of the company's top priorities.

I'm not suggesting Pandora's August numbers are inconsequential. Nor am I saying management doesn't know what it's doing. I just don't believe, however, that the August numbers change any expectations the Street has had on this company. Yes, the metrics were above market expectations. But let's not forget the numbers were coming from a company with negative earnings.

What I mean by this is, while Pandora's growth numbers were indeed impressive, this is precisely the performance for which investors are paying. No one's buying the stock today for the profits. So I wouldn't get carried away.

Also, as has been the case since the company's inception, investors should continue to expect volatility in the shares, especially since we don't yet know how the arrival of Apple and Google is going to disrupt this market.

If it sounds like I'm proclaiming "doom and gloom" for Pandora, I'm not. As excited as investors might have been with the August numbers, there is also cause for an equal amount of anxiety. You see, Pandora's popularity is and has always been a double-edged sword. The more people that listen to the service, the more it costs the company to operate its business. Since Pandora doesn't own its music content, it has to pay a royalty to the owners of the songs.

Essentially, the more music you listen to, the higher Pandora's fees become. As much as I've always liked Pandora as a consumer, this model has always kept me at bay as an investor. The question has always been, can the company ever monetize its business effectively to the extent where these royalty/content costs can become more manageable?

To that end, aside from instituting a limit on free listening several months ago that it lifted on Sept. 1 and buying an terrestrial radio station, I don't believe Pandora has effectively addressed its business model, particularly from the standpoint of costs. It would also help if the company could figure out a way to turn the August-type numbers into profits. Until then, Pandora will likely remain just another strong growth producer with little substance.

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

This article was written by an independent contributor, separate from TheStreet's regular news coverage.

Richard Saintvilus is a co-founder of StockSaints.com where he serves as CEO and editor-in-chief. After 20 years in the IT industry, including 5 years as a high school computer teacher, Saintvilus decided his second act would be as a stock analyst - bringing logic from an investor's point of view. His goal is to remove the complicated aspect of investing and present it to readers in a way that makes sense.

His background in engineering has provided him with strong analytical skills. That, along with 15 years of trading and investing, has given him the tools needed to assess equities and appraise value. Richard is a Warren Buffett disciple who bases investment decisions on the quality of a company's management, growth aspects, return on equity, and price-to-earnings ratio.

His work has been featured on CNBC, Yahoo! Finance, MSN Money, Forbes, Motley Fool and numerous other outlets.

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