Pandora’s developing strategy looks highly-ambitious yet plausible. We should welcome the new multi-platform, international player, David Balfour comments, but not at any cost.
20 November 2015 - EditorialPandora has long been something of a curious beast for those of us in the UK and European industry. Briefly available in the UK many years ago, it left our market in early 2008, after deciding that the rights being demanded by collecting societies were too high for it to develop a sustainable business. Since then, we’ve watched it grow into a huge operation in its core US market.
In 2015, Pandora claims nearly 80m active users in the US, Australia and New Zealand. It reports $1bn in annual revenue and estimates that its service accounts for nearly 10% of all US radio listening hours. Statistics like these enabled Pandora to complete a successful IPO in 2011, though the company’s story has not been one of a simple and sustained upward trajectory.
Whilst no one doubts Pandora’s proven appeal to US radio listeners, the company has been beset by financial and strategic uncertainty. The fact that it operates a semi-interactive radio service, rather than a fully on-demand model, has enabled it to secure its licenses direct from US collecting societies, rather than through having to negotiate with individual rightsholders. In some respects this has been a blessing for the company – granting it the ability to run a service without devoting huge resources and financial advances to direct licensing. Pandora has long maintained however that the royalty rates it pays – which are dictated by US Copyright Royalty Board (CRB) – are too high. The company has fought a sustained battle to achieve a downgrade in those rates, sometimes resorting to tactics which have angered many in the music industry. Whilst Pandora has apparently been able to operate a sustainable business under these rates, it has not ceased campaigning for those rates to be lowered. At the end of 2015, it faces a ruling from the CRB which could see its royalty costs for its radio service slashed, as it would wish, or which could lead to a dramatic increase in its current royalty obligations.
Against this backdrop of uncertainty, we’d been somewhat surprised to hear repeated reports in recent months of Pandora again embarking on international expansion plans. If royalties in the UK made its original business unsustainable, what exactly has changed to alter that picture, we wondered? Nothing could have prepared us for the news this week however, that Pandora had paid $75m to acquire chunks of the business of Rdio – a US-based on-demand steaming service which became mired in financial difficulty despite winning consistent praise for its excellent user experience.
What kind of game is Pandora playing here? It’s preparing to re-enter markets it previously defined as being unviable, whilst also apparently preparing to enter the on-demand space, with its far more complex licensing obligations and arguably far thinner revenue margins. It seems like a curious strategy for a business looking to sustain proven success.
How can one explain these recent moves? According to comments made during a call with analysts this week, Pandora’s move into the on-demand space has a lot to do with the upcoming CRB decision. CFO Mike Herring commented “It was our analysis that, if the CRB outcome is unfavourable, the contribution margins we can expect over time from our ad-supported line of business will obviously decrease...In this scenario, having other revenue streams to focus on… gains importance.”
It seems therefore that Pandora sees the on-demand space as a viable future market, even despite the costs which saw Rdio go under, and even the mighty Spotify failing to turn a profit to date. Whilst Pandora recognises the fiscal challenges that this space throws up, it also believes that its existing brand, and its massive existing user base, will give it a comparatively easy road towards achieving significant subscriber numbers. It also already has some 3.8m existing paying subscribers. A widening of Pandora’s business interests – improving its subscription service and making an international expansion – would therefore mitigate against the effects of a negative CRB decision, one which could otherwise prove catastrophic.
It’s worth noting that the Rdio acquisition is just the latest evidence of an aggressive future plan from Pandora. In 2015 it acquired data company Next Big Sound for $50m, whilst earlier this year it acquired ticketing platform Ticketfly for $450m. Pandora is making no secret of its desire to become what Herring describes as “the definitive source for music enjoyment and discovery globally.” It’s a highly aggressive strategy but one which – if it does work – could well make Pandora one of the few big internationally relevant services in the music space, and crucially one where it doesn’t have all its eggs in one basket.
Whilst Pandora’s plan is certainly ambitious, it also carries huge future burdens for Pandora, and significant potential dangers for rightsholders. A crucial point of Pandora’s Rdio acquisition is that it is not acquiring Rdio’s licenses with rightsholders. This is arguably a good thing: Rdio couldn’t form a sustainable business based on its current deals, whilst Pandora arguably has a negotiating clout which Rdio never did. Meanwhile, Pandora has a reputation for being weak in its backend technology, whilst Rdio has a reputation for providing one of the best backends in the business.
Pandora certainly faces a large challenge in trying to secure licenses from rightsholders. It has shown itself capable of doing deals however: it recently struck a major agreement with Sony/ATV, whilst it earlier secured a license from Merlin. Will Pandora, as it seeks to make its on-demand service viable – also seek to negotiate on ‘radio’ rates with rightsholders? Will it try to encourage rightsholders to cut collection societies out of the picture? It would seem like a logical strategy for Pandora, whilst large labels might also be tempted at the thought of securing revenue direct, without have to first go through a society.
At what cost could these direct licenses come? The danger must be that labels will be persuaded to license at rates below the current statutory benchmarks – in return for economies of scale and the cutting out of societies and their costs. If labels do this however, it will fatally weaken the ability of the societies to argue that their current rates are proportionate. This could lead to a real terms devaluing of rates for all parties – not just those signed to big labels. Indeed individual artists and small labels would likely bear most of the pain, as they would not benefit from economies of scale yet could still see their rates reduced.
Whilst there are notable dangers which could come with Pandora’s entry into the international space, it should also be noted that the company also carries strong potential to grow the digital music sector as a whole. If Pandora can attract the kinds of casual music listeners - which form the bulk of its US audience - to increase their engagement with digital music in other counties, it could help significantly grow the space as a whole.
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