The Satellite Radio Horror Story

In 1992 the FCC made available at auction the rights to specific radio frequencies for satellite broadcast on radio. The auction resulted in two companies paying about $90 million each to obtain licenses to use these frequencies. The winning companies were to become Sirius Satellite Radio, and XM Satellite Radio. The business model was simple: Charge an annual fee, provide the customer with countless programming options all of which would be commercial free. This would be the end of terrestrial radio. Both companies went public in the late ‘90s and generated a tremendous amount of capital. They would need it… it is estimated that each company had start up costs of between $1 and $2 billion. The companies knew it would take time to recover these costs, but they and their investors were confident. Satellite radio became a reality in 2001 when XM launched two satellites and began to broadcast nationwide. Sirius followed a few months later.

Very shortly after the companies began broadcasting, they realized they had a problem: they had vastly overestimated demand. The customer did not view satellite radio as a necessity, but rather as a novelty. Over 90% of revenue in the satellite radio business is from subscriptions, and only a small fraction of the subscriptions they had anticipated had become a reality. The companies recognized that their only chance for survival was to find niche programming which would create value for specific listeners and generate revenue through additional subscribers. Celebrity hosted talk and comedy shows began to appear. However, the only way to secure celebrities they felt would be a draw, such as Oprah Winfrey and Martha Stewart, was to offer them absurd amounts of money (Oprah got $50 million for a show she rarely appears on). Market research has shown that most of these shows have failed to increase subscription rates by a significant amount. In 2005 XM had 3.3 million subscribers, and Sirius had 1.2 Million subscribers. Both companies hemorrhaged money, though XM was in a much stronger financial position.

The industry began to change in late 2005. Sirius, recognizing that they were withering on the vine, took an “all in” approach and gave Howard Stern a 5 year $500 million contract beginning in January of 2006. The gamble was a success as Sirius ended 2006 with over 6 million subscribers. XM continued to grow as well, primarily due to their deal that put XM receivers in every GM car. However losses for both companies were still colossal (several hundred million per quarter), though Sirius now seemed to be gaining the stronger position in the industry. In February 2007 it was announced that, in an effort to reduce costs and become profitable, the companies would merge and Sirius would acquire XM for 4.6 shares of Sirius common stock per XM share. The primary point of contention regarding the merger (which was heavily lobbied by Clear Channel, Viacom, and other organizations with interests in terrestrial radio) was that the new company, SiriusXM, would have a monopoly on satellite radio. Sirius XM argued that it had no monopoly, and that it was in competition with terrestrial radio. It should be noted that the terrestrial radio contingent most likely agreed with this, but was opposed to the merger because without a merger both companies would be certain to fail and all competition to the terrestrial medium would be eliminated. Seventeen months later, after what is believed to be the longest deliberation in FTC history (the notoriously long Exxon/Mobil merger only took 11 months), the merger was approved in July of 2008.

Since the merger, things have actually started to improve for the satellite radio industry, which is now solely SiriusXM. The company has a positive cash flow, though it still loses about $100 million per quarter as it struggles with its satellite capital expenditures. 2009 adjusted EBITDA is over $300 million. And most importantly, they have roughly 20 million subscribers. However, the future does not look very bright for SiriusXM. In their current model, they are still several years away from turning a profit, if ever. And most importantly, Howard Stern’s contract expires 13 months from today. The latest metric shows that anywhere from 5 to 7 million of SiriusXM subscribers buy the service solely for the Howard Stern show. If Howard Stern were to leave SiriusXM the company would most likely lose all of those subscribers and the $700 million in yearly subscription revenue that comes with them. Ultimately, if you’re a SiriusXM shareholder, you may as well ride it out. The stock price has been steadily declining since it reached its high of about $70 in 2000. Today its $0.63.