Will Anyone Make Money In Streaming?
Chad is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
A recent article by fellow fool Rick Munarriz caught my eye. His title, “Streaming Music Will Make Your Ears and Pockets Rich” sounded interesting, and he made several points about the popularity of streaming music. His theme was, while Apple may have revolutionized the ability to carry your music around, streaming music is the wave of the future. He pointed to Pandora (NYSE: P) as the leader in streaming with nearly 52 million active users of the service. I like the service itself, but I've written about Pandora's issues in a prior post. To be blunt, streaming music sounds great, but this is a business where the more the service is used, the more costly it is. Streaming music might be the wave of the future, but this wave is the color of red ink.
Rick's point about Pandora growing quickly is well taken. After all 52 million people can't be wrong. The fact that CD sales have been on a constant decline is one of the big problems facing big box retailers like Best Buy, Target, and Walmart. These companies used to be able to make money selling the newest CD when it came out. Today all of these CDs are just a huge waste of space for many retailers. Rick's argument is, customers like the flexibility to stream what they want, instead of buying individual tracks or albums. However, it's not safe to assume that as streaming companies grow they will become more profitable. Rick even made this mistake in his comments about Pandora. “Revenue climbed 58% in its latest quarter to $80.8 million. Profitability has been spotty, but good things will happen if it can keep growing.” Hold on, wait a minute, why exactly will “good things happen” if Pandora keeps growing? The fact is, in the last quarterly report, Pandora's revenue grew 58%, but content acquisition costs increased by 91.43%. The reason is, Pandora doesn't have the same cost structure in music that say Netflix (NASDAQ: NFLX) has in online movies and television. Netflix can license a season of shows or a movie, and then stream it as many times as it wants to. Pandora, on the other hand, pays every time a song is played. This is why Netflix could theoretically grow its way to better profitability, but Pandora may not be profitable ever. In addition, while Pandora is popular, another entrant into the streaming field actually offers a better, more customizable service.
I can attest to Spotify's quality, as I'm writing this article while listening to some of my Spotify collection. To be blunt, once customers try Spotify there is really no reason to go back to Pandora. Originally, Spotify was all about offering a whole lot of songs from any artist that you could listen to for free online. The company at current, offers a program for your Mac or PC that lets you stream advertising supported music. With artists represented from All Time Low to U2, the Spotify catalog is impressive. The fact that customers can create their own playlists of their favorite songs or albums is the difference maker. Spotify recently did something that takes on Pandora directly. The company now offers Spotify Radio on mobile devices for free. You can't access your individual song selections unless you pay the $10 premium membership fee on mobile devices. However, you can create stations based on your playlists. You can add songs you discover to your playlists, and give songs a thumbs-up or thumbs-down to improve your station. If this sounds like Pandora, but better, I would say you've got the idea. Spotify seems destined to take the crown from Pandora for streaming music online. The company is raising money, which indicates the company could be worth $4 billion. Since Spotify isn't a publicly traded company, we won't be able to gauge if the company can make money in this business.
That leaves investors with one company to consider, if they are looking for a profitable company in the streaming and alternative radio space. That company is Sirius XM Radio (NASDAQ: SIRI). Sirius has something that neither Pandora or Spotify can claim, 22 million paying subscribers. While Sirius XM isn't quite the same experience as Pandora or Spotify, the company has another advantage over the other two: Sirius makes money. The company might not have the huge growth ahead of it that Pandora and Spotify do, but who cares about revenue growth if the company is never profitable? Sirius keeps about 1 out of every 5 new subscribers longer-term. Churn has been relatively low at 1.9%. I've written before, about how Sirius is more dependent on vehicle sales to drive its results. This bodes well for the company, as auto sales have been far below trend for the last few years. Another big advantage that Sirius offers investors is, the company's service doesn't require using any data from your smartphone or cell plan. With both Pandora and Spotify, even if you subscribe to their premium services, you still need to access a cellular network (which means data usage) to actually stream your music. I have a hard time believing that customers are going to sign up in droves to use their data plan so they can stream music in their car, or while away from a wifi network.
Long story short, while Pandora and Spotify offer experiences that Sirius can't match completely, only Sirius is actually making money. If you believe that revenue growth trumps everything else, just remember how well that tactic worked just before the Internet bubble: Not so fantastically. Sirius is growing, making money and provides the only real investment opportunity in this field.
MHenage has no positions in the stocks mentioned above. The Motley Fool owns shares of Netflix. Motley Fool newsletter services recommend Netflix. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.