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I am a devoted fan of Sirius XM (SIRI). This satellite radio company has performed very well for the past five years. Strong steady growth in paid subscriptions and a minimal constant churn rate of users makes SIRI a very attractive investment. It's a solid long-term bet with great potential for a big spike in the near future. Despite its super high 50 P/E ratio, I believe it still has more room for growth.

However, the recent announcement of Sirius XM's CEO Jim Meyer over a CNBC interview has raised a lingering dilemma. Meyer said he is not worried about Pandora (P) because the streaming radio company's business model will "not work without more advertising." He also summed it up that this weakness of Pandora plays to SIRI's core strength because "our music stations will remain commercial free forever."

This statement is a big red flag that gives me serious doubts about Meyer's plan for Sirius XM. Does he really believe that ad-free music broadcasting will NOT adversely affect the bottom line of the company? Did he say it in jest? Was it just a psy-war propaganda or a fundamental policy for SIRI?

How can Meyer refuse to acknowledge that Pandora's raging success this year might be due to its brilliant ad-based business model? SIRI's price is only up 28.75% since January while Pandora made a massive 220% jump over the same period.

Advertising May Increase Net Profit

Sirius XM's sluggish earnings performance over the last six years is a bane topic for investors. I believe the company can widen its menu for revenue sources. Yes, Sirius XM is a fee-based model and a great one at that. The $4 billion it earns this year is a testament to the company's subscription money machine concept.

Nevertheless, this huge revenue amount is still not giving enough profit to validate the company's high P/E ratio. Investors also want to see a decent amount of net income from large year to year increase in sales. I for one would love to see SIRI show a 5.0 EPS soon but I don't think this will happen in the next two or three years. It may not even happen in five years time.

Even with the scheduled increase in monthly subscription fees next year may not generate enough cash add-on to contribute to a higher net income. It may even alienate some loyal subscribers to cancel their accounts and transfer to the cheaper monthly plan of Pandora.

Advertising is an easier way to fatten up the cash registers. SIRI's over 25 million premium subscribers are already comfortable with ads embedded in their talk show or non-music channels. A short 15 or 30 second commercial every one hour of music will not likely cause a subscribers revolt. Business strategies are never set in stone. Commercial-free music can be twisted around to make an exception for infomercials.

The miniscule ad inserts on the music channels might just be able to produce enough money to make a noticeable impact on the company earnings per share performance.

Monetize the Free Trial Freeloaders

The company is offering a 30-day free trial to desktop, smartphone, and tablet computer users. Why not increase it to 45-days and make the said trial accounts a captive channel for advertising campaigns. Put ads strategically on ALL channels while people are freeloading.

Will this tactic lower the conversion rate? I don't think so. If trial users like Sirius XM's broadcast offerings, most of them will still upgrade their account to premium regardless of advertising. People do not really need 24/7 continuous music playback, a short 10-second gap of infomercials every hour or so will not likely offend users.

Summary

Sirius XM's commercial-free forever policy for music channels may have been good for the last 10 years but the changing tide towards the mobile platform allows for creative monetization of its listener base. Pandora's incredible run this 2013 shows that investors likes its ad-based approach to streaming music. Sirius should seriously reconsider its position.

If the company wants to stick to its commercial-free policy for music broadcast, Sirius XM might just be forced to buy Pandora in the future. That internet streaming radio company, and other streaming outfits like Apple's iTunes Radio, can erode the user base of SIRI as more people rely on their pocket-size phones to tune in to their music or radio shows.

Source: Sirius XM: Forever Ad-Free Music Channel Strategy - Good For Business?