Blog : SIRIus Trouble

by Peter Leeds on July 30th, 2007

Disclosure: Peter Leeds owns Put Options against SIRI stock. (Meaning that he is speculating that the price will decline).

There has been a lot of talk about Sirius (SIRI) satellite radio lately, specifically about a proposed merger between them and XM (XMSR) satellite radio.

Since SIRI falls into penny stock territory, I figured I should chime in. Note: I will make money if SIRI shares fall, so take that into consideration as you read my blog.

You should also know that I have 2 SIRI radios in my vehicles, and don't want to see the company disappear. Yet, I think that SIRI is in a spot of trouble in a few ways.

• the majority of future subscribers will be paying less in fees
• there will be (and it has begun) a drop off in retail subscriptions, now that SIRI has maxed out the 'early adopters' market
• The possible SIRI / XM merger does not solve the underlying financial turmoil of the company. Traders have factored it in to share prices as if it will somehow wipe out an absolutely inexcusable balance sheet.

New Subscriber Sources:

The majority of new subscribers are now coming by default, by buying a car with SIRI thrown in as a perk. These subscribers are more likely to cancel, and many of them do not even pay for the first year. Once they do, they are getting discounted promotional rates. This translates into smaller revenues per user.

Subscriber Drop Off:

SIRI is getting a fraction of the new retail subscribers they did last year. This is because they have maxed out the 'early adopters,' which generally equates to 5% of the total market. Many companies have a major hurdle getting to the next 5%.

For example, when hybrid-fuel cars appeared on the market, 5% of society wanted one just because they were new. 5% would never drive one, no matter what. And the remaining 90% need to see the vehicles in use for a few years, and be converted via millions of dollars in marketing and media relations.

In other words, it is easier to get the first 5% than to get the next 1%.

Financial Health:

SIRI is just another case of spending $1 to make 50 cents. Anyone can spend $1 billion dollars to figure out how to make a few hundred million.

After extensively looking at the financials of both companies (SIRI and XMSR), XM is in much better financial health than Sirius. However, they are both pretty brutal.

So, what do you get when you combine two financially suspect companies? One bigger financially suspect company.

I wouldn't be surprised to see the merger fail altogether. However, I also wouldn't be surprised to see it pass.

My only caution to investors would be: don't read too much into the potential merger. Traders are factoring it in to the market as if it will save the two satellite radio companies. It won't, not by itself anyways.

Here's what will happen in my opinion:

Option 1: They merge or one goes under, then via creative financings (such as issuing shares), they heavily dilute the company. The surviving company steams on, but the value of the shares are worth significantly less than they are now.

Option 2: Bankruptcy is declared, but the technologies and bones of the company are attributed to a new corporation. Shareholders lose 100% of their investment. The new company gets to start where they are right now (subscribers, agreements, programs), only now they do not have any debt.

Unfortunately for investors, Option 2 would be a good move from a corporate perspective.  If you could dump over a billion dollars in debt, just by filling out some paperwork, would you?