Are You Siri-ous?

By Chad Henage - April 10, 2012 | Tickers: P, SIRI | 0 Comments

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I've heard many arguments both for and against Sirius XM Radio, Inc. (NASDAQ: SIRI). I remember not long ago the company was expected to drop off the board and be relegated to the pink sheets of investing or worse. I've heard many recent articles saying that Sirius is just getting started. Not having looked at Sirius in a while, I wanted to see if I should be taking Sirius more seriously.

How is Sirius Doing?

The company trades for $2.35 as of this writing, which gives the stock a forward P/E of 33.57. With growth in the next few years expected at just under 20%, the stock trades at a premium to its growth rate. I'm sure this premium stems from the fact that in the last 12 quarters, the company has shown sequential growth in all except two. With a growing company like Sirius, you would expect to see a growing gross margin over time as the company leverages its costs across more subscribers. Looking at the last four quarters, the company grew revenues in sequential order, but gross margin took a hit near the end of the year.

This drop in gross margin is something for investors to keep an eye on. In the company's February 9 earnings release, the decrease in gross margin was attributed to a decline in average revenue per unit from $11.80 in Dec. 2010 to $11.61 in Dec. 2011. This was due to an increase in subscription discounts offered through customer acquisition and retention programs. While the company's subscriber acquisition cost declined, it was not enough to offset these discounts in subscription income. Another factor that investors will want to watch is, the company's new vehicle conversion rate. Since Sirius gets a tremendous amount of its growth from vehicle sales this is critical. What caught my eye was this conversion rate has been slowly declining from 46% in 2010 to 44% at present. The good news is churn has been relatively stable at 1.9% in the last two years.

What Should Drive Results Going Forward?

Sirius recently signed a deal with Toyota to put the company's satellite radios in that company's vehicles. With General Motors and Ford already on board, adding Toyota is a major win for the company. In a recent report, Toyota says it has set a goal of selling about 1.89 million vehicles in the U.S. in 2012. If Sirius were offered in each of these vehicles, at a 44% conversion rate, the company would add 831,600 gross subscribers. In the last two years, between 15% and 23% of gross subscribers remained with the company. Using an average of 18%, Sirius has the potential to gain as many as 166,320 net additional subscribers through this Toyota deal in 2012.

Generally speaking Sirius is dependent on vehicle sales for most of its subscriber additions. In 2012, expectations are for industrywide U.S. vehicle sales in the 14 million range. For Sirius to get 1.3 million additions, which is their 2012 goal, they would need about 7.5 million new subscribers with an 18% retention rate. With higher vehicle sales in 2012 and Sirius adding 8.6 million new subscribers in 2011, it seems this goal of 1.3 million net additions is easily reachable. This is particularly true when you figure they gained 8.6 million gross subscribers last year without the Toyota contract.

The second major headline is Liberty Media's push to gain “de facto control” over Sirius. Since Liberty owns about 40% of Sirius through preferred shares, this is a big question mark on the horizon. It doesn't appear that Liberty is trying to buy out Sirius. If anything, it appears that Liberty is trying to make sure that its large investment performs the way it wants it to. Investors will need to keep an eye on the Liberty story. This could turn into a distraction for management of Sirius. If things got really ugly, Liberty could attempt to take over Sirius completely presumably at a premium.

Conclusion

Sirius' main competition is traditional radio. While companies like Pandora Media (NYSE: P) have burst onto the scene and shown growth in Internet radio, they don't have the same reach and partnerships that Sirius has. In addition, a service like Pandora is ad based versus Sirius which is subscription based. With nearly 22 million subscribers, clearly these customers feel Sirius' service is worth paying for. While Sirius stock carries a premium to its growth rate, Sirius is the top dog in satellite radio and no serious challengers have appeared. With 12.8 million vehicles sold in the U.S. in 2011, Sirius signed up 1.7 million net additional subscribers. Without the Toyota deal, Sirius would likely have added 1.86 million subscribers in 2012, based on auto sales projections and the company's conversion rate (13.28%). With the Toyota connection now in place, Sirius may add as many as 2 million net subscribers. With two million net subscriber additions possible, no debt coming due this year, and an improved balance sheet, something tells me it's time to get serious about Sirius.

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