The latest of the major tech company initial public offerings has come and gone, with Pandora opening on the New York Stock Exchange, but questions still linger despite its apparent success. CNET reports that Pandora is overvalued and the company’s fundamental business model should discourage investors.
The most basic issue for Pandora revolves around its primary cost: music licensing. The service pays 0.1 cent to SoundExchange, the group that collects money from online music distributors for artists, for every song played. While this seems like a minimal amount, it adds up to $7.35 per customer per year if each person listens to their maximum allowed free music.
With fixed costs associated with every single customer, the company is in a position where attracting more customers offers no additional profit unless every customer is profitable. This makes advertising crucial for the service, but the company actually attracts relatively little advertising. Only 1 percent of “air time” is devoted to advertising, compared to 20 percent for traditional radio stations, and 60 percent of their customer-base uses mobile applications that generally draw less ad revenue.
“It’s simple math that you can’t make enough with ad banners and click-through keywords to pay a penny per song,” MP3.com founder Michael Robertson told CNET.
CNET reported earlier that that Pandora shares sold initially for $16 and rose as high as $25 before settling a bit above the initial offering price.