Music delivery systems are changing dramatically. In addition to the terrestrial based over-the-air radio stations that we all grew up with, there is now a myriad of options for streamed music. (Music can also be downloaded and bought through retail outlets, but we’re not going to include those options in this article.) Satellite radio has become fairly commonplace at this point due to Sirius XM Radio’s (SIRI) penetration of the automobile industry. In addition, internet radio companies such as Pandora Media (P) have become more accessible, due to wireless access of the internet. In addition, the companies that own the broadcast-type radio stations (e.g., privately held Clear Channel) are moving online, as is Sirius. We will compare Sirius with Pandora, as a proxy for internet based radio, to determine the suitability of Sirius XM as an investment. Please use this analysis as a starting point for your own research.
Sirius’ shares were recently trading around $1.85, giving the company a market capitalization of $6.97 billion. Pandora is about a quarter of the size of Sirius. With its shares trading around $10.80, Pandora is worth $1.74 billion. Sirius is trading right in the middle of its 52-week trading range of $1.27 to $2.44. Pandora, however, is near the bottom of its range of $9.33 to $26.00, although it did just come public in June 2011. While neither company currently pays a dividend, Sirius did report net income of $0.04 per share over the past twelve months. Pandora has reported a net loss of $0.22 per share over the same time frame. As is typical for a company with a net loss, Pandora doesn’t have a positive p/e ratio, while Sirius has a relatively high one of 46.75 over the past year. Sirius’ PEG ratio, which compares the p/e with the company’s expected growth rate over the next five years, is a modest 0.84--a PEG lower than 1 typically indicates that a company is undervalued.
While Sirius and Pandora have pursued different business models, Sirius relies on subscription revenue and Pandora runs an ad supported strategy, each is looking at taking market share from the other’s respective market. Sirius has been making its broadcasts available on the internet for a few years. Other than treating the internet as just a way to get its channels on subscribers’ other devices, it hasn’t truly taken advantage of the different nature of the internet. Pandora has recently also moved from its natural base on the internet into Ford Motor Corp.’s (F) SYNC system. SYNC is a system that Ford developed to combine navigation and entertainment with a voice-controlled interface to make for safer driving. One issue with accessing Pandora through SYNC is that it comes through a smartphone, which may or may not have limitations on how much activity is allowed on a monthly basis. So while each company is looking to expand outside of its natural markets, neither seems to be considering a change, either incremental or wholesale, in strategy to take better advantage of these opportunities.
At the end of the latest quarter, Sirius had over 21 million subscribers and $2.97 billion of revenue in the last twelve months. 85%, or $2.54 billion, of its revenue is derived from subscription fees. Over that same twelve months, Sirius obtained a gross margin of 62.48% and an operating margin of 22.01%. By comparison, Pandora had 40 million active users at the end of October 2011 and revenue of $240.65 million over the past year. Advertising revenue makes up 87% of Pandora’s total revenue. While Pandora has operated at a loss over the past year it does have a solid gross margin of 40.11%. Its operating margin, however, is a negative 1.69%.
Even though Pandora had a net loss, it did manage to increase its year-over-year quarterly revenue by 99%. Sirius, on the other hand, grew year-over-year quarterly revenue by 6.3%. Its quarterly earnings growth of 54.10% is what should really be attractive to an investor. Another positive for Sirius is its free cash flow. It achieved $550.48 million in operating cash flow over the past twelve months. Pandora, on the other hand, had only $4.48 million in operating cash flow. Sirius’ levered free cash flow, the amount of cash left over after covering all company expenses and investments, including debt service, was $475.42 million over those same twelve months. Again, Pandora comes up a little short with a negative levered free cash flow of $6.36 million. It should be noted that each company is at different points in its corporate lifecycle, so Pandora, as the challenger, should be expected to be spending more on infrastructure at this point. That being said, Sirius looks to be the investment with the brighter future at the moment.