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Pandora Will Need to Pay More for Its Songs, but It Could Have Been Worse

Pandora investors think that's great news.

Asa Mathat

Here’s news much of the music industry has been waiting for: Pandora will need to pay more to play its tunes, starting next month.

The short version: Pandora’s primary, free music service will need to pay music owners 17 cents for every 100 plays of a song, up from 14 cents this year.

The news could have been worse for Pandora — the music labels wanted more than 20 cents for every 100 plays — and it isn’t unexpected. Pandora flagged the issue for investors way back in 2011, when it went public. And for quite some time the conventional wisdom in the business was that its rates would be going up, which is one of the reasons Pandora’s stock is down this year.

Now Pandora investors, who tend to be a jumpy bunch, have pushed the stock’s price up 20 percent in after-hours trading. In a statement, Pandora CEO Brian McAndrews gave the new rates a thumbs up: “The new rate structure will enable continued investment by Pandora to drive forward a thriving and vibrant future for music.”

The rate hike is also why Pandora has been simultaneously diversifying its business by branching out into concerts via its $450 million acquisition of TicketFly.

More importantly, Pandora has been signaling for a while that it is prepared to overhaul its core product. Instead of constraining itself to Web radio, which offers listeners limited choice about what songs they hear, it has been moving toward an on-demand, interactive subscription service like Spotify or Apple Music offer — at least as an option. That’s why it bought Rdio, a failed subscription service, in a fire sale this fall.

That’s a big deal. Up until now Pandora has been able to offer its service in the U.S. via a “compulsory” license, which means it doesn’t have to negotiate with music labels and publishers directly. But if it wants on-demand, it will need to hammer out deals with the music owners, just as Spotify and Apple have done.

Pandora has generated a lot of animosity with music owners over the years, because the music guys think Pandora has done an end-run on them and used a legal loophole to build a $3 billion business without sitting down at the table.

But if Pandora’s rates are going to go up anyway, the company appears to be thinking, it may be time to work directly with the music labels.

What this won’t do, fundamentally, is change Pandora’s core challenge, which is the same one every streaming music company faces: How do you turn a profit in a business where your costs keep going up the more popular you become?

Even with the air cover provided by lower rates, Pandora has never turned a profit. By the end of last year, the company had lost $197 million over its 14-year life (not bad, really, compared to some bubbly cash-burners). Since it has to pay money every time someone plays a song, its content costs have kept growing along with the service, and usually hover at more than half of its revenue.

Most other music services have similar tales of woe. Spotify, which has a slightly different structure in which some of its costs are tied to customer revenue, not usage, continues to lose money, and no one thinks Apple or Google are in the music business because of the fat margins.

Today’s news makes it harder for Pandora to create a solvent business. But it has never been easy.

This article originally appeared on Recode.net.