Sirius XM To Refinance 7.625% Debt; Is HoldCo Next?

| About: Sirius XM (SIRI)

Earlier today Sirius XM Radio (NASDAQ:SIRI) announced that it would be issuing $600 million of new debt maturing in 2020. The proceeds from the new debt, along with cash on hand, would be used to retire the remaining balance outstanding on its 7.625% debt due 2018. This is the second refinance announced this quarter.

Earlier in the quarter Sirius XM called its remaining balance outstanding on its 8.75% Senior Notes due 2015. $753,487,000 of those 8.75% notes were redeemed on September 3, 2013. That redemption carried a "make whole" redemption provision that brought the total cash cost to that refinance to more than $840 million.

The $700 million of 7.625% notes also carry a make whole provision. As of June 30th, there was a remaining outstanding balance of $599.35 million on these notes, with $100.65 million having been repurchased during the first half of the year. Since there will be fees and expense associated with both the new offer and the redemption, there will be a significant use of cash for this transaction, with marginal interest expense savings over the balance of the year.

Although the offer has not yet been priced, I expect it to be priced somewhat higher than the previous $600 million bond offering due 2020, which carried a 5.75% coupon. This expectation is based on two factors. First, although the maturity of this issue will be slightly shorter, there has been a significant use of cash since those 5.75% notes were issued.

Second, the recent acquisition of the Connected Vehicle Unit from Agero will cost the company $530 million. Whether Sirius XM issues another bond to fund the acquisition from Agero or uses its $1.25 billion dollar revolver remains to be seen. Either way, the ratings companies are likely to consider an increase in leverage resulting from the acquisition as adding risk to the new bond issue.

Sirius XM executives have often discussed leverage in the context of share buybacks. During the recent Bank of America Merrill Lynch Media, Communications and Entertainment Conference, the question again came up about the leverage, buybacks and the formation of a Holding Company. The purpose of the Holding Company is to provide Sirius XM greater financial flexibility. Sirius XM CEO Jim Meyer noted:

...we also want to have a financing structure that puts us in a position with the most flexibility. So first and foremost, I will say again what we said before, we are going to do a hold co. It's timing, it's still being determined, but we will do it. One of the reasons we'll do it is for the flexibility it gives us.

Obviously, the 3.5 [leverage] is certainly a number that I'm comfortable with or I wouldn't have said it. I think you are right by the way. I think it's a range, not 2.51 or 3.5, it's a range. There's certainly no hard fast rule that we wouldn't be higher than that at a certain times. Me personally, I think 3.5 is what we are comfortable with. That doesn't mean in the short term we wouldn't be comfortable with going higher than that, okay.

Many of the older debt issues had restrictive covenants. The 7.625% debt being retired is the last of the pre-2011 callable debt. (The 7% Exchangeable Notes due next year are non-callable.) I suspect that this latest refinance will clear the way for the formation of a holding company and the ability of Sirius XM to take on additional debt.

It is difficult to see the new bond issue carrying a rate of less than 6%, and if that assessment is correct, it would represent a savings of about $10 million per year. The funding costs and make whole provisions are likely to wipe out much, if not all, of the interest expense savings that could be expected over the five next years. It's why I believe that this transaction is to get to the point where the holding company can be set up.

Once that happens, I would further expect the debt levels to increase, the share repurchase to accelerate and Liberty Media (NASDAQ:LMCA), Sirius XM's majority shareholder, to begin selling its high cost basis shares.

Disclosure: I am long SIRI, BAC. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: In addition to my long positions, I have January 2014 $3.50 covered calls written against many of my long positions in Sirius XM. I also trade blocks of Sirius XM on a regular basis. I have no position in Liberty Media