Pacific Crest: Long-Term Pandora Fundamentals Look Weak, Despite Potential Regulatory Boost

• Pandora Media Inc P shares have declined 29.12 percent over the past three month, with the share price almost touching its 52 week low on October 30.
• Pacific Crest’s Andy Hargreaves has maintained a Sector Weight rating on the company.
• Hargreaves believes that while a favorable CRB ruling could prove to be a near term catalyst for the stock, the fundamentals going forward appear to be weak.

According to the Pacific Crest report, “Results over the last year suggest leverage in the core radio business has been impaired, and Pandora's planned expansion into a global on-demand model appears more likely to reduce profits than add to them.”

Analyst Andy Hargreaves mentioned that the declining operating leverage in the company’s radio business does not appear to be temporary, and might be suggestive of the consumer’s aversion of ads in this service rather than a temporary impact of the launch of Apple Music.

“Consequently, we believe the profit outlook for the core business has been severely diminished, which has likely contributed to management moves to diversify,” Hargreaves elaborated.

Expressing concern regarding Pandora Media’s on-demand music business model, Hargreaves stated that this model could lead to the burden of high variable costs, minimal barriers to entry and large competitors.

The CRB is expected to give its ruling regarding the performance royalties for the next five years on December 14. A favorable ruling might “improve the profit outlook, but does not change the loss of leverage,” the report added.

Overall, Hargreaves believes that Pandora Media is in the midst of a meaningful change in its business model, which could adversely impact the company’s profit potential.