I have followed Sirius XM Satellite (NASDAQ:SIRI) radio for a number of years. Throughout those years, I have learned a lot about the business, a lot about investing, and a lot about being strategic. Many of the lessons I have learned in satellite radio apply to other equities I invest in. I was once told after an article about Arena Pharmaceuticals (NASDAQ:ARNA) that I should "stick to satellite radio, and if I was an expert there what makes me think it makes me an expert on Arena?" I am not sure what I would classify as an expert in Arena or Sirius XM. I consider myself to be a very informed person on both subjects.
So how on earth, or in space, are Sirius XM and Arena similar? Think about it for a moment.
- It took billions of dollars to build and launch satellites before Sirius XM ever had a hope of turning a profit.
- Arena had to invest hundreds of millions into an anti-obesity drug before it ever hoped to see a profit.
- Sirius XM had to deal with government red tape in getting spectrum to air programming and had to gain the approval of the FCC in order to do so. All along, the "big boys," terrestrial radio, was fighting a campaign of its own against a new up-and-comer in satellite radio.
- Arena had to deal with government red tape in order to gain approval of its anti-obesity drug Belviq. All along the "big boys," AKA Big Pharma, were fighting their own campaign.
- In the early days of satellite radio, there were two companies. Sirius was the smaller player that was dominated by retail investors while XM was the darling of Wall Street and had its support.
- Arena has been dominated by retail investors while competitor Vivus (NASDAQ:VVUS) started off as the darling of Wall Street.
- XM was the first to launch its service even though it was the CEO of Sirius that invented the concept of satellite radio.
- Arena was the first to gain FDA approval, but Vivus was able to launch first.
- Sirius signed away a lot of money and rights to compete by spending money on partners like the NFL, the NBA, the NHL, and even Howard Stern.
- Arena signed away a lot of money and rights in order to bring in marketing partner Eisai.
- Sirius and XM had to convince auto manufactures that the concept of satellite radio was not only viable, but something that consumers would want.
- Arena and Vivus have to convince insurance companies that anti-obesity drugs are a good thing and that by controlling weight other conditions, some perhaps more expensive to treat, will be beneficial to the market.
- Sirius and XM went through a highly speculative phase where investors thought that these equities would shoot to the moon. The equities did run, but ultimately came back down in order to build a stronger foundation.
- Arena and Vivus have seen speculation about achieving "blockbuster" status ($1 billion in sales in 1 year) very quickly while the reality is that getting to blockbuster status will be a longer process than many realize.
- Sirius and XM went through an excruciating process that lasted years in order to gain government approval to merge.
- Arena went through a lengthy, though far less excruciating process, in order to gain DEA scheduling.
- Sirius XM investors often spoke of global potential and how massive it would make the company. To date, Sirius XM Satellite Radio is available only in the U.S. and Canada.
- Arena and Vivus have had hopes of a global market but as yet Vivus has been rejected in Europe and Arena had to pull its application. Investors in Arena and Vivus are learning that international expansion is a process that is slow moving and expends time and money.
- Sirius XM is seeing the emergence of competition from the likes of Pandora (NYSE:P), Spotify, Slacker, and Google (NASDAQ:GOOG) entering the space. Sirius XM has some distinct advantages, but these other players are not going to be denied a piece of the pie.
- Arena and Vivus are already seeing a new competitor in Orexigen (NASDAQ:OREX) with its anti-obesity drug Contrave in the process of FDA trials.
- Sirius XM is working on a pipeline that includes Sirius XM Internet Radio and a secondary car market (satellite radio equipped used cars) to continue growth.
- Arena has a pipeline of potential drugs that are in the process of being evaluated and tested for market viability and possible FDA approval.
- The Sirius XM pipeline costs a lot of money. In about 5 years, the company will need to launch a new fleet of satellites.
- The Arena pipeline costs money. New drugs require testing and great expense.
More than anything else though, the biggest parallel between Sirius XM and Arena is that Sirius XM is a subscription business and Arena is a prescription business. Think about that for a moment. Sirius XM is in the business of gaining customers through subscriptions and tries to maintain those subscriptions by adding more in order to offset the churn (consumers that leave the service). Arena wants to see prescriptions written, wants to maintain those prescriptions, and wants growth to be substantial enough to offset those patients that churn out because they are not seeing results.
As Arena gets ready to launch Belviq on June 7th, there are some things that Arena investors could learn from the history of Sirius XM. These are exciting times and the hope is that the sales will live up to the hype. That is something that is not easy to accomplish. It has taken Sirius XM over a decade to get to the 20 million mark of self paying subscribers. In the earlier days of investing in this company there were people expecting 20 million back in 2008. The biggest challenger to growth is the fact that in the same way that satellite radio is not for everyone, Belviq (or Vivus's Qsymia for that matter) is not for everyone either.
About 45% of those exposed to satellite radio convert to self paying subscriber status. In pharma terms, this would be the group of responders. However, over the course of 1 year, about 25% of the responders churn out of the service. Essentially, while the market would seem to be massive and robust, the reality is that the market can be tempered. In the early days of satellite radio getting the new subscribers was easier. The market was untapped. Churn was not a major factor. As time passed, these challenges became more evident. In Q1 of 2013, Sirius XM had gross subscriber additions of 2,510,000. That is an impressive number for one quarter. Now the flip side of the coin. The company had churn of 2,057,000 subscribers. The NET additions were 453,000 subscribers. Now, bear in mind that this is a very good performance for Sirius XM. The company is on solid footing, growing free cash flow, and growing EBITDA. There is nothing not to like.
What I am trying to accomplish with this article is to get investors to look more deeply into how the dynamics of the business work. Good performance is not an easy task for any company. Managing growth is not easy all of the time either. I did very well in my satellite radio investment. It took holding the equity for a number of years. It took learning about the positives as well as the negatives in the business. It took me realizing, that as excited as I was about satellite radio, most did not feel the same way as I did.
Sirius XM was, and still is, a stock with a substantial retail following. It has passionate fans and passionate investors. I see the same thing with Arena. Sirius and XM fans bantered back and forth in much the same way you see Arena and Vivus investors spar with each other. Neither Sirius, nor XM became the positive path to success that many investors thought. Yes, the companies did get to that point, but it was a much different road than many would have thought. Part of what blinded me in my early years of satellite radio investing was that I surrounded myself with people of similar opinion. To that group, the whole country needed commercial free music and a massive channel selection. If one were to observe that group (it was quite big) from the outside, we would have been labeled as fanatics about something that in reality only a small segment of the population would actually find useful or pay for.
As I write about Arena, Vivus, and Orexigen, I cannot help but look back on the many parallels that exist between two entirely different sectors. It is not that I do not believe in the ultimate success of these companies. Instead, it is my belief that the road has many more turns, dips, and peaks on the pathway from "A" to "B."
As Arena gets ready to launch Belviq, investors that follow closely will see many dynamics at play. I can virtually guarantee you, the reader, that no matter what the initial sales channel checks are for sales, there will be a group that sees these sales as good. In contrast, there will be a group that sees any result as bad. These groups are made up of the passionate fans and the passionate detractors. What these groups have in common is that they never put anything quantifiable onto the table prior to results coming out. Instead they speak in generalities. Why? Plausible deniability and lack of accountability. Think about that for a moment.
I have long said that the generalities accomplish nothing. If a company came and promised to make money, your first question would be, "How Much?" If that company said, "Don't worry, we promise to make money and we are very, very excited about it," would you be eager to invest?
What matters is what Wall Street and the consensus is expecting. What matters is what the company is guiding to. Arena's partner Eisai (OTCPK:ESALY) has made statements that indicate that it expects to sell somewhere between $200 million and $250 million in the first year. Further, it has stated that it is anticipating a $1 billion year at some point about 7 years from now. I consider both a success, but also realize that 7 years is a long time and that anything can happen. The best anti-obesity solution is likely not Belviq, Qsymia, or Contrave. Just as the best audio entertainment solution is likely not the current version of Sirius XM. All of these are the big players in their respective market though. That means they have potential. That potential is worth betting on, which is precisely why I have invested in Sirius XM and Arena. I have hope but ground it in reality. I see potential for big numbers, but consider the subtraction side of the equation as well.
Specific to the Belviq launch, I see three months of impressive growth in prescriptions. This is because patients will be trying to see if the drug helps them and the bar of three months has been established as a bar. The fourth month will see the beginnings of churn (patients beginning to drop off because they are not responding well). It is imperative that investors understand this dynamic as early as possible. There will be times when news may seem good or bad and the equity will react accordingly. An uninformed investor may jump to an improper conclusion and react in a manner that is more from the hip than from understanding the dynamics of the business.
A successful product will grow, even with churn. No product is a solution for everyone. The best working product in the world has to meet many criteria in order to remain successful. It has to work. It has to be priced right. It has to have a recurring revenue stream. It has to help the bottom line.
We may see a run going into the launch of Belviq. Be happy, but contain your enthusiasm with the reality that the run-up is simply based on potential and not actual results. The next big thing we want to see is the prescription numbers. Gauge these against street expectations because it is the street expectations that will determine if the sales figures are good or bad in the short term. Track the performance and be aware of how the business works. Pay attention to how the company frames the numbers. Understand that it is their job to paint a pretty picture. As an investor you have money on the table. It is your job to look at both potential as well as risk. Stay tuned.
Additional disclosure: I have no position in Pandora, Vivus, or Orexigen.