Over the past three months, Sirius XM Radio's (SIRI) share price has been on a roller coaster. Even the recent financial results failed to support the company's share price. Though the company missed analysts' estimates by a narrow margin, there is no need to panic. The company is going strong and in this article I will evaluate what the future holds for SIRI. I will also determine whether this falling share price offers investors a good entry point or not.
The following figure shows the price movement of SIRI's share price during the last three months.
Sirius' 2013 Earnings
For full year 2013, the company reported an increase in revenues by 12 percent to $3.8 billion. The increased revenues contributed to an increase in the EBITDA of 27% to nearly $1.17 billion. It is worth mentioning here that the adjusted EBITDA margin of 32.5%, during the fourth quarter of 2013, was the highest in the history of the company. Similarly, the free cash flow also improved by 31 percent to reach a record $927 million, which is nearly 80 percent of the adjusted EBITDA. The increased revenues, EBITDA and free cash flows were primarily driven by the increased number of subscribers. The chart below demonstrates the YoY change of subscribers.
Source: Investor Relations
The company reported a new all-time high in self-pay subscribers by adding 411,484 new subscribers bringing the total subscribers to 21.1 million. Similarly, the company added 1.6 million subscribers to bring the total paid subscribers to 25.6 million in 2013.
In addition to reported subscription growth, the company did well in reducing costs. It reported a decline in subscriber acquisition costs to $124 million and that is the lowest level in its history representing almost 12 percent of the company's adjusted revenues. The decrease was mainly attributed to lower subsidy rates per Sirius-enabled vehicle.
Despite exceeding analysts' expectations of top-line growth, the company missed the bottom line consensus by 1 cent per share. For the full year, the earnings were 6 cents per share while analysts were expecting 7 cents per share.
Now I will explore the company's valuation and give a detailed analysis on this subject. However, I will move forward with one assumption that the current buyout offer will not be successful. Also, I remained conservative while completing analysis as it is usually better to be safe than sorry. The company's subscriber base is its most important revenue driver. More than 85% of revenue has been derived through its subscriber base of more than 25 million. SIRI has shown a continuous improvement in its subscriber base. While analyzing I have assumed that the total number of subscribers will reach 41 million by 2020. In my opinion, this is a conservative assumption given the fact that many analysts have forecasted this figure to be above 50 million. My analysis suggests that SIRI requires 2.2 million additional subscribers to reach this number, which is not at all unrealistic. Company penetration is currently at 71%, meaning its radios are in a higher percentage of new cars than ever before. Also, the company's churn rate is almost 2% which is quite low and denotes the fact that the company has a loyal customer base. The company's strategic decision to move into the used car segment will also help it to increase its subscriber base. These favorable factors will help the company to reach 41 million subscribers by the end of 2020.
Average Revenue per User
As I have already mentioned, SIRI has a loyal customer base compared to other subscription based businesses. Historically, the company has modestly increased its prices. In 2011 the company increased the base package rate by $1.54 and in January 2014 a further increase of 50 cents occurred. In my opinion, the company still has pricing power and can increase prices without increasing its churn rate. Analysts are expecting an increase of 4% in SIRI package rates per year. Though I still believe that SIRI will increase its base rate package every year, I am assuming an increase of 3.5% per year. This will increase the average revenue to $15.6 by 2020. The following graph shows the average revenue per user till 2020.
Total Revenue from Subscriptions
My analysis shows that the total revenue from subscriptions will grow at a CAGR of 10% from 2014 to 2020. This will bring the total revenue from subscription to $7.6 billion by 2020. Keep in mind that I remained conservative while the forecasting revenues from subscriptions. The following table shows the total revenue from subscriptions from 2014 to 2020.
Revenue from Advertisements, Equipment Sales and Other Services
To derive revenue from advertisement, equipment sales and other services, I merely used their historical averages. These components represent less than 15% of total revenue, so by using the historical averages of these sources of revenues, I reached the following figures.
Total Revenue in USD Million
SIRI is already working hard to reduce its operating expenses and in my opinion the company will continue doing so. SIRI's growing cash flows and strong balance sheet position give it the liberty of retiring its debt ahead of maturity. Also, the company is making efforts to reduce the salaries of some of its highest paid radio personalities. All of these factors will have a positive impact on its operating and net margins. I have gradually increased the margins of the company keeping in mind its debt profile. Conservative analysis shows that SIRI's operating margin will reach 39% in 2020.
One major problem I came across while calculating the company's EPS was its buyback program. The company has an aggressive buyback program that makes it difficult to forecast its total number of shares outstanding in the future. In April 2014 one major block of buyback will occur and in total the company has a buyback plan of $4 billion. In my opinion, given its strong cash position and high cash flows, the company will continue its buyback program. For the purpose of calculations, I have assumed that company's total shares outstanding will decline to 5 billion by 2019 from its current total of approximately 6 billion.
The following table shows the margins and EPS of SIRI throughout the forecasted period.
Annualized Return Calculations
The trigger events for my valuation are the growth in the company's earnings and the expansion of the company's multiples gradually reaching the industry average. Interestingly, Morning Star and Yahoo Finance both have different industry P/E ratios. So I used the P/E multiple of both sources and calculated an annualized return for an investor over the course of the investment horizon.
Using the forecasts shown above of earnings and assuming that the company's trailing P/E will expand to the respective industry averages over the course of the investment horizon shown, I have derived the target price of the company at the end of future periods. The above calculations show a very healthy return for investors.
The company is a market leader in the radio broadcasting industry in the USA with a more than 55% market share. The company also has no competition in the radio satellite industry which has high barriers to entry.
The fundamentals of the company also reflect its strength and even with the conservative assumptions one can see that company still has a lot to offer to its investors. So, in my opinion, the recent price movement provides a good entry point for investors.