Sirius: New Car Sales Will Boost Profits

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Sirius XM Radio (NASDAQ: SIRI) sits in a unique position for the delivery of entertainment content. The majority of satellite capable radios are installed in vehicles as part of the optional equipment from the factory. Competition for Sirius XM is free broadcast radio. Customers decide to pay the $15 per month for satellite radio due to the broader choices of commercial free music and other programming options not offered by the local radio stations.

Another challenge facing Sirius XM Radio is the growth of streaming Internet radio, especially through mobile devices such as smart phones. Instead of paying for satellite radio, the theory is smart phone users will consume their music over the Internet including plugging or connecting the smart phone to auto stereo systems, maintaining a continuity of the user's music listening experience.

The business side of Sirius XM follows a straight forward and repeatable business model. Here is how it works in a few steps:

  • Auto manufacturers install satellite capable radios as standard or optional equipment in new cars. New car buyers typically receive three months of free satellite radio service when they purchase a car.
  • Sirius XM receives the contact information of the buyer of every new car with a satellite radio. The company uses developed marketing practices to entice the new car buyer to convert to a paid subscription once the free trial runs out. The company consistently gets 45% of new car buyers with satellite radios to purchase the service.
  • Satellite radio services contracts are one or more years longer. The number of customers who do not renew satellite radio service is referred to as the churn rate. Sirius XM has experienced a consistent monthly churn rate of 1.9% over the last few years.
  • If more new car buyers sign up for satellite radio service than the number who do not renew, the number of subscribers increases and Sirius XM Radio increases its revenues. The company added a net 1.7 million new subscribers in 2011, compared to net additions of 1.4 million in 2010.

The big secret weapon for Sirius XM Radio is an increasing percentage of new cars with satellite radios installed – 60% of new cars now have the radio, compared to 20% five years ago – along with increasing new car sales. The number of new cars sold in the U.S. fell off a cliff due to the Great Recession. From a new car sales level of 16 million in 2007, sales dropped to 10.4 million in 2009. Auto sales grew by one million each of the last two years. If car sales follow the trend in 2012, about 13.5 million new cars will be sold in 2012. In the decade through 2008, U.S. new car sales varied between 16 and 17 million per year. As sales return to historic levels and a higher percentage of cars are equipped with satellite radios, the future for sales at Sirius XM Radio looks very promising. In its guidance, the company expects to generate revenue of $3.3 billion, up from $3 billion in 2011.

In the three years since the merger, Sirius XM has steadily increased revenue and worked hard to maintain or reduce operating expenses. As a result, $100 million of the $200 million year-over-year gain in revenue in 2011, fell to the EBITDA line, which increased to $731 million, up from $626 million in 2010. Management guidance for 2012 forecasts EBITDA of $875 million.

In 2012, a couple of factors could help out the bottom line results. At the end of last year, the company launched Lynx Portable / Sirius XM Radio 2.0, bringing a new level of features to Internet radio, competing directly with the premium streaming music services. A $1.50 per month – 12% – the rate increase will help with revenues as subscribers renew their contracts. Investors should watch the churn rate in the first two quarters of this year to determine if the rate increase negatively affected retention. Finally, in early March the company announced an agreement with the Asbury Group (NYSE: ABG) – a major used car dealer group – to start offering trial subscription to buyers of used cars with installed satellite radios. The resale market of satellite radio installed cars is a relatively untapped market for Sirius XM.

The service offered by Sirius XM is unique in the entertainment investment sector. The nearest competition for investments would be radio station companies such as Cumulus Media (NASDAQ: CMLS). Even though it is one of the largest pure play radio companies, Cumulus generates one-tenth the revenue of Sirius XM. A major difference is satellite radio revenues come from subscriber fees, while radio stations are dependent on advertising revenues.

Shareholders of Sirius XM have experienced an eight-fold share price increase since the bottom of the 2009 bear market. Last fall, the share price dropped to below $1.50 before recovering on positive guidance from corporate management. The current $2.30 per share has been a price ceiling for the last couple of years. In 2012, the stock will break above the current price as the fears concerning lost business are put to rest with each quarterly earnings report. Watch the monthly new car sales reports, and if they report positive year-over-year gains, it will be a very good year for Sirius XM Radio. If the major auto manufacturers, General Motors and Ford report improved results as the year moves along, Sirius XM will be a major beneficiary of the expanding new vehicle sales


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