Pandora Inks Music Deals With Sony, Universal to Pave Way for New Subscription Plans

Absent from the announcement was Warner Music. Westergren said in Q&A Pandora is having “constructive conversations” with Warner and hopes to have it as part of the launch of new services when they roll out.

Westergren called the agreements a “win-win solution that supports artists” and brings a “full range” of listening options to consumers. Chief Financial Officer Mike Herring said the agreements allow Pandora to preserve its long-term margin targets for its core advertising business, while enabling new subscription products, calling the scenario a “story of revenue and business model diversification.”

The company sees its core internet radio business growing to more than $2.4 billion in the next five years, Herring said. New product tiers launching over coming months will accelerate subscription revenue, and the company is targeting a $1.3 billion subscription business over that time frame based on 10 percent penetration of Pandora’s projected U.S. audience. It's projecting $300 million revenue from its ticketing business, bringing Pandora to a $4 billion-plus revenue business in five years, Herring said. Pandora One has 4 million subscribers, said Herring.

The $1.3 billion projection is based on the industry’s traditional $9.99 monthly on-demand subscription, though Pandora sees a “huge opportunity” for a mid-priced product, and the new agreements allow different prices and service tiers, said Herring. The goal is to move Pandora up the demand curve from the ad-supported business to a subscription model by being able to demonstrate the value proposition of a subscription to customers who listen for free now. Rather than “punishing people into subscription," the company hopes to show them "the value of the additional features and functionality we can bring to market,” Herring said. Pandora also can increase revenue per user rates through other opportunities such as ticket sales, he said.

Westergren cited the planned model of being able to drive prices up over time, versus an “all or nothing proposition.” Pandora’s latest deals “should set the table for a different set of economics going forward for everyone,” he said.

Responding to an analyst question, Westergren referred loosely to a “mid-tier” subscription offering that will address the mass consumer, a customer who has been a “missing piece” in the streaming music market. Westergren credited ad revenue from Pandora’s existing customer base of 100 million quarterly listeners for the ability to create a compelling step-up option. Pandora One, the company’s current $3.99/month ($36 per year) subscription, “is about to get a whole lot better,” Westergren said, without elaborating. Changes to Pandora One are due in coming months, with the $10-per-month on-demand offering on the schedule by year-end.

Pandora expects LPM (licensing costs per 1,000 listeners) to rise to about $33 for the free ad-supported business, said Herring, compared with the $31.50-$32 LPM it has been operating at under statutory royalty rates. He attributed the increase to additional features and functionality the company is planning for the ad-supported business. The deals are U.S. only but set the groundwork for future international conversations, Herring said: Increased functionality will give Pandora new, “very valuable, highly engaged advertising inventory,” including the ability to advertise paid services, plus conversion opportunities. Pandora projects 10 percent of listeners will be subscribers in its five-year forecast.

Pandora’s ad-supported business helps ensure margin stability and a balanced financial model, said Herring. “If all we had was subscription to drive revenue -- and we had to grow subscribers in order to drive revenue for the business -- I think we would have a lot of incentive to drop price and sacrifice margin in order to grow the top line.” Pandora will draw revenue from its ad-supported business, multiple tiers of subscription services, the ticketing business and other means “without having to fight the price wars,” he said.

The 10 percent target subscription penetration compares with 5 percent now for Pandora One, said Herring. He sees 10 percent as easily achievable due to boosted features in Pandora One, which will become the mid-priced offering falling between ad-supported listening and the $10 on-demand package. By leveraging its vast amount of data on customer listening patterns, Pandora will be able to demonstrate to customers, "in context," where it would benefit them to upgrade, Herring said. Pandora’s long-term target is 100 million monthly users, compared with 100 million quarterly users today, he said.

While evolving subscriptions are the target for Pandora, the ad-supported business will be the bulk of revenue for years to come, said Herring. “It’s going to take a while for the subscription business to build because it’s not all subscription and nothing else,” he said. “It’s about a balanced business approach.” Because Pandora doesn’t have to drive subscriptions “at all costs” to increase revenue, and has the base of 4 million Pandora One subscribers, “We don’t have some of the same issues other subscription businesses have in building a critical mass of royalty payments” to achieve margin targets, he said.