There have been a number of comments on recent articles about how Liberty Media (LMCA) won't pay a low price in an acquisition of SiriusXM Radio (SIRI) because they will lose too many subscribers. The idea is that many of SiriusXM's investors are also subscribers, and if investors feel that they were not getting premium value for their shares, they would cancel their subscriptions. Here is an example of one such comment on a recent article about Sirius where Sean Dalrymple wrote:
A high percentage of public ownership of Sirius are Sirius subscribers. Anything that gives a negative return or nulls a good return for those who have invested for the long haul will cause Sirius to implode. For me, I am a subscriber and an investor, like most. Sirius has a fluid cult following and any disruption in good returns for myself and others will cause low morale where churn will increase rapidly. Pay-for-service companies have different guidelines to follow in board rooms because all actions taken that has a reflex effect to their customers. If Mel is aware of these, and as a salesman I am sure he is, any outcome off unhappy investors will destroy Sirius in the long run.
Would you cancel your subscription if Sirius sold out and did not provide the return you know it could? I would. So would millions of others.
Since I don't have a subscription, I'm not the best person to answer the question. This wasn't the first time I have seen this type of comment and it wasn't the last. Earlier this month, on a different article, Blue_waters wrote:
If people see that Liberty got the majority without paying premium for it, in other words, got it on a cheap (hostile), most likely, the subscribers/investors would cancel their subscriptions. Liberty would not want this revolt.
Then there are also investor/subscribers like bassfisher3k who take a very different perspective when separating their investment from the service:
CN - EXACTLY!! you can have my subscription when you pry it from my cold dead fingers. I am a true addict and will not knowingly choose to cancel this service.
Clearly, no investor wants a subscriber "revolt" or "millions" of cancellations. And Liberty, as the largest investor in Sirius, wants these less than other investors. So, should Liberty pay a premium to lessen the potential loss of subscribers?
It would be very difficult to determine the intersection of investors and subscribers. It is likely that many investors are subscribers and it is likely that many subscribers are not investors. It is also likely that some subscribers will choose to cancel to if they feel they are being cheated by Liberty. However, I see it as extremely unlikely that the number would be in the millions as Dalrymple contends.
Modeling a Breakeven Point
We can model a breakeven point to determine if it makes sense for Liberty to pay extra to avoid cancellations. Modeling this in one extreme case that Liberty makes a tender offer for the entire company - or about 4.1 billion shares (estimate based on shares outstanding at year end, options and the convertible bond) shows the following:
- The incremental cost of acquisition for each extra penny paid = 4.1 billion * $0.01 = $41 million
- Potential annual revenue per self-pay subscriber = $14.49/month * 12 = $173.88 (more on this later)
- Number of subscribers lost to equate to the cost of each one cent increase in purchase price = $41 million / $173.88 = 236,000
- Ten cents more per share would be 2.4 million subscribers for "break-even"
A second case would be just to get to a majority ownership position, or buying about 800 million shares.
- The incremental cost for each extra penny paid = 0.8 billion * $0.01 = $8 million
- Potential annual revenue per self-pay subscriber = $14.49 * 12 = $173.88 (more on this later)
- Number of subscribers lost to equate to the cost of each one cent increase in purchase price = $8 million / $173.88 = 46,000
- Ten cents more per share would be 460 thousand subscribers for "break-even"
There are enough holes in this cursory examination to give critics plenty of opportunity to make challenges. The largest is the residual effect that the loss of subs would impact more than a single year. To offset that, one must also realize that many subs are paid for in advance and that the self-pay monthly churn will reduce the impact in future years. Also, there is the overstatement of the average monthly subscriber rate.
More About the Monthly Rate
The $14.49/month is the new monthly rate for self-pay subscribers and does not include the Music Royalty Fee (MRF). The MRF was excluded because it is essentially a pass-through of the music royalty payment. There are some self-pay subscribers paying higher amounts for extra services. There are many paying lower amounts for family plan discounts, a la carte programs and annual pricing plans. There are also about 14% of subscribers receiving some form of retention discount.
We also know that the ARPU for the most recent quarter was $11.61/month. The ARPU is a blend of Self-pay and paid promotional subscribers and includes the MRF. It was also calculated before there was any positive impact from price increase.
Using a lower average monthly payment would certainly seem to be justified. However, all it does is lower the denominator in each Step 3 above and would require the subscriber losses to be even greater to justify each one cent increase in the buyout price.
Does any Sirius investor really believe that the impact of subscriber losses would be significant enough to justify an increase in the purchase price? Would ten cents per share be enough to convince someone to remain a subscriber? Is it twenty-five cents? Run your own numbers.
I remain convinced that Liberty will make a move to acquire a majority position in Sirius later this year, but I doubt that the price is going to be affected by a concern over potential subscriber losses from disenchanted subscriber/investors. The numbers just don't appear to support that contention.
Disclosure: I am long SIRI.
Additional disclosure: I have $3 January 2013 covered calls against most of my Sirius position, as well as some $2 and $2.50 January 2013 covered calls. I may initiate (or close) a buy stock/sell option position in Sirius, discussed in another article, at any time. I have no positions or plans to trade Liberty in the next 72 hours.