Good morning. Welcome to the Sirius XM Radio Q2 2012 Earnings Conference Call. Today’s conference is being recorded. A question-and-answer session will be conducted following the presentation. (Operator instructions.) At this time I’d like to turn the call over to Hooper Stevens, Vice President, Investor Relations and Finance. Mr. Stevens, please go ahead.
Thank you, Jim, and good morning, everyone. Welcome to Sirius XM Radio’s earnings conference call. Today, Mel Karmazin, our Chief Executive Officer will be joined by David Frear, our Executive Vice President and Chief Financial Officer. At the conclusion of our prepared remarks management will be glad to take your questions. Jim Meyer, President, Operations and Sales, and Scott Greenstein, President and Chief Content Officer, will also be available for the Q&A portion of the call.
First, I would like to remind everyone that certain statements made during the call might be forward-looking statements as the term is defined in the Private Securities Litigation Reform Act of 1995. These and all forward-looking statements are based on management’s current beliefs and expectations and necessarily depends upon assumptions, data or methods that may be incorrect or imprecise. Such forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially. For more information about those risks and uncertainties, please view Sirius XM’s SEC filings. We advise listeners not to rely unduly on forward-looking statements and disclaim any intent or obligation to update them.
As we begin, I would like to advise our listeners that today’s results will include discussions about both actual results and adjusted results. All discussions of adjusted operating results exclude the effects of stock-based compensation and certain purchase price accounting adjustments. With that I will now hand the call over to Mel Karmazin.
Thanks for joining us this morning. Our Q2 results were outstanding across the board and we are particularly pleased that we have increased our guidance for subscribers, revenue, and EBITDA since Q2 ended. Q2 2012 was in some ways a microcosm of the company we said we would create by merging Sirius and XM. Our strategy is working and we are consistently delivering on the execution of our business plan that we articulated to you.
The audio entertainment business is more competitive than ever but we are delivering across all metrics. We have a unique and powerful business that we believe is very scalable and very sustainable. Our subscription revenue business model is unequaled. We derive almost 95% of our revenue from subscriptions with consumers paying us in advance for our service. We know that historically subscription business outperforms the more cyclical advertising business. We are also pleased that although small, our advertising business is growing and outperforming most radio companies.
Uniquely, Sirius XM has long-term agreements with all of the OEMs that manufacture and sell vehicles in the United States. As a result, today approximately two-thirds of all new vehicles sold come with a satellite radio and a trial to our service, which by the way consumers love. Since an estimated 145 million people spend over 50 minutes a day in the car with almost 75% of these people being alone, our integration into the car with an easy user interface also contributes significantly to our success.
We’re proud to say that since the merger we have consistently delivered excellent operating results quarter after quarter as reflected in all of our important metrics. Revenue is not only growing; it is actually accelerating. Operating expenses have been increasing less than revenue and principally only related to our growth. This has resulted in accelerating adjusted EBITDA growth along with margin expansion. Share in and conversion have been consistent for many quarters, and RPU is also growing as our January price increase rolls out to more and more of our subscribers.
We grew net subscribers by 622,000 in Q2, the strongest quarter of subscriber growth since the merger of Sirius and XM. This was a 38% increase from the subscriber growth we saw in last year’s Q2. Self-pay net adds, arguably the most important component of our subscriber growth, were 463,000, up 28% from Q2 2011. Year-to-date, total [net] additions through the first half have exceeded 1 million, up 24% from the first half of 2011.
This strong Q2 performance was built around very solid execution across the board, including stable conversion and stable churn despite more people paying higher prices from the January 1 price increase, and improving results from win back and subsequent owner vehicle sales. We continue to benefit from increases in auto sales and our churn and conversion performance is steady versus last year. We view both the churn and conversion statistics as significant wins viewed in light of a difficult economy and our January price increase.
We have a conservative expectation around auto sales and churn for the second half of the year, particularly as the economy continues to show signs of tepid growth. While it is still early, after two strong quarters we are positive that this year’s price change was the right step for the company. Consumers recognize our strong value proposition despite the intense competition from existing terrestrial and IP radio and the new audio services that are making their way into the market.
Revenue of $838 million, the highest quarterly revenue figure in the history of the company, was up 13% over Q2 2011. This acceleration from Q1’s 11% growth rate and the price change affected a higher proportion of the base. Following our Q2 subscriber pre-announcement in July we increased our full-year revenue estimate to approaching $3.4 billion. Total cash operating expenses were up just 7.1% with all of this growth attributed to revenue-based and growth-related expenses.
Fixed costs excluding revenue share and royalties, customer care, and billing and SAP were actually down year-over-year. We continue to find efficiencies in programming and other areas within the organization. The combination of accelerating revenue growth and strong expense management drove an expansion in our adjusted EBITDA of 28% to a record $237 million. Never before has the company produced so much EBITDA in one quarter and this figure clearly puts us on track to exceed the previous guidance we gave you.
Incidentally, the adjusted EBITDA margin in Q2 was also a record 28.2%, up significantly from 24.8% in Q2 last year. We are now confident in beating our previous adjusted EBITDA guidance so we are raising our full-year guidance to approximately $900 million.
Free cash flow in Q2 grew 39% to a record $230 million, the result of higher cash flow from operations combined with lower capital expenditures. This very strong cash flow performance beat all other quarters in the history of Sirius XM or its standalone predecessor companies. We even outperformed last year’s Q4 which is typically the strongest quarter seasonally for cash flows. Year-to-date free cash flow reached $245 million, up 65%. We are still very much on track to generate approximately $700 million of free cash flow this year.
As I mentioned on the Q1 call, revenue, adjusted EBITDA, and free cash flow are expected to continue to increase throughout the year as the price increase rolls out through the subscriber base and additional subscribers join the service. The consensus expectation for auto sales has flattened but remains up from last year’s numbers. The current expectation for full-year 2012 is 14.3 million and this is in line with where auto sales were at the time we did our Q1 earnings call in early May.
Despite this flattening in auto sales expectations, our strong execution has enabled us to raise our full-year guidance for the second time this year and we now believe our net subscriber additions will approach 1.6 million. This means our paid subscriber base should approach 23.5 million by the end of this year which would obviously be a record high level.
Challenges still abound in reaching our targets, but we’re confident that our subscriber growth estimates are achievable. I’m particularly pleased with the growth we are seeing in the used car channel, and we continue to target 1 million or more self-pay additions from our efforts with previously-owned cars. While we are coming up with programs to further improve our performance in used cars, we are benefiting from what is largely a numbers game. Cars turning over today in the second-owner market are increasingly likely to have a satellite radio as our new car penetration rate began to increase materially five to six years ago. These trends will continue accelerating over the years to come.
We continue to focus on the subscriber experience. This means we want to deliver the best content, the best customer service and the best technology that we possibly can to make sure our subscribers remain loyal members of the Sirius XM family. Our very strong lineup of non-music programming including Howard Stern, best-in-class curation of comedy, the NFL, Major League Baseball, National Basketball Association, the NHL, NASCAR, all types of collegiate sports, news and business offerings position us very well against our terrestrial and IP competitors. Added to this advantage is that we provide our music to subscribers commercial-free which is how listeners would prefer to receive their music content. Though some investors may be disappointed that we have chosen to keep our subscription costs low, we believe that this too adds to our competitive advantage.
Today, we are announcing the launch of Sirius XM On Demand. Sirius XM subscribers listening via our online media player on Apple iPhone, iPad or iTouch with Android soon to follow will be able to choose their favorite episodes from a catalog of more than 200 shows and over 2000 hours of content to listen to whenever they want. This is a very cool feature that enables our internet subscribers to listen to some of Sirius XM’s best content when and how they want it, pulling up recent shows, searching for archived content, and navigating through that content at will.
The company’s Personalized Radio Project is also on track for rollout by the end of this year. This is a feature that will let our internet subscribers tailor expertly-curated music channels to their taste. We continue to be excited about the additional Sirius XM 2.0 channels in English and Spanish that we’re offering in select radios and on the internet, and we’re getting good initial reaction from the expansion of our sports content online. Sirius XM is absolutely the best place to listen online to all of the major sports out there and no other competitor online comes close to matching the variety of non-music programming we offer.
We continue to look for ways to efficiently invest in more content including more exclusive new content online. All of this content and new features online will help drive adoption of our premium, all-access, and internet add-on packages which will benefit RPU. Once again, these investments in new content and new features are possible because of our strong business model.
We collect revenue from our subscribers and on a variable basis we keep the vast majority of our incremental revenue. By combining our great revenue model with tightly controlled fixed expenses and low variable costs we are able to produce tremendous operating leverage as we grow, and we can offer consumers the kind of expensive, hard-to-build content offerings that can’t be found elsewhere – content like Howard Stern, our great collection of sports and news, and even the simple yet powerful idea of commercial-free music. Free and premium competitors will always have a tough time replicating this winning lineup.
I do not believe that there is any question about how well we are performing today, but I also want to assure you that in addition to focusing on the current business our newest initiatives will be significant drivers of our long-term growth. These include our focus and investments in the second owner of each vehicle and our IP delivery platform. We also believe that while our satellite architecture will remain a very powerful advantage, the ultimate combination of satellite and IP will give us even stronger long-term competitive advantages. We are working with all of our automakers to roll out the next generation of radios and user interfaces that combine the best aspects of satellite and IP to enhance the driving experience. Our business continues to be very scalable and we continue to invest in our backend infrastructure to handle a subscriber-enabled vehicle base that will serve 35 million paying subscribers as well as 65 million inactive but potential subscribers.
Our earnings results are not being adversely affected by the slowdown in China, the troubles in Europe, or currency fluctuations. As our results demonstrate, there is nothing wrong with operating a company that is currently exclusively focused on the US that still can deliver the growth that our shareholders expect. In summary, we’re very pleased with the company’s performance particularly compared to other subscription media services and other radio companies.
We see no reason today why Sirius XM will not have many years of continued growth. Our greatest concerns are not company-related but more macro issues, such as the economy, fiscal cliff, budget deficit and gridlock in Washington. We can’t do much about those but I can assure you we will do everything possible to continue to grow our company no matter the environment.
The model and plan are quite simple: we grow subscribers, revenue and adjusted EBITDA grow; interest expense go down; capital expenditures remain low as there is no need to invest significantly in satellites for many years; NOLs are used to keep cash taxes minimal for many years. Free cash flow grows and is substantial. Management will then use that free cash flow in the most advantageous way for investors – real simple as long as we execute, and I am confident that Sirius XM will continue to execute.
With that I’ll turn the call over to Dave for some additional comments.
Thanks, Mel. Q2 saw another extraordinary performance by Sirius XM. In the face of weakening global growth continuing through concerns about the stability of the Euro and a weak US economy, Sirius XM chalked up its best quarter for subscriber growth in the four years since the merger, adding 622,000 subscribers bringing total subs to over 22.9 million.
We continue to be pleased by consumer response to the $1.50 basic price increase initiated on January 1 of this year. Self-pay churn at 1.9% and new vehicle conversion rates at 45% remain consistent with our historical experience. The 1 million net additions in the first half of the year, a 24% increase over 2011’s first half, have prompted us to raise guidance for the second time this year to approaching 1.6 million net additions from 1.5 million last quarter and 1.3 million when we started the year.
[SAR] grew 16% over the prior year in Q2 to 14.1 million, though SAR actually declined modestly from 14.2 million in Q1. July SAR came in at just about 14 million, up 14% from July in 2011, however keep in mind that last summer’s numbers were adversely impacted by the tragedy in Japan. Analysts thought our outlooks for 2012 had been softening in the past couple of months although the average remains at 14.3 million for the year.
We entered the year with nearly 5.5 million trials in the conversion funnel. Growth in new and used car sales has led to consistent growth in the inventory of trial subscriptions which for the first time now top 6 million. As of today, over 6000 franchised and independent auto dealers have signed on to our used car program. We continue to convert new car trial opportunities at 45% even though vehicle mix continues to shift to smaller, less expensive cars.
With new vehicle conversion rates steady at 45% the increasing volume from new and used car conversions as well as reactivated radio increases resulted in nearly 15% growth in our self-pay gross additions in Q2. With self-pay churn steady at 1.9%, self-pay net additions grew by 58% over the first half of 2011 to 762,000 from 484,000 in the prior year.
The price increase has been rolled out to approximately 50% of the self-pay subscriber base. We continue to be pleased by subscriber reactions to the price increase and the success in selling our All-Access Plan which offers subscribers our premier channels and smartphone access for a 16% savings.
RPU was up 3.8% over the prior year to $11.97 for the quarter. Combined with the 9% growth in subscribers, subscriber revenue grew 14% to $730 million. Advertising revenue increased 14% over the prior year, continuing to grow faster than the national radio advertising market. Equipment and other revenue were largely unchanged. Total revenues increased by 13% to a record $838 million for the quarter.
Cash operating expenses increased by only 7.1% or $40 million to $602 million. $29 million of the increase was related to increases in variable costs, $16 million of the increase is related to increased subscriber acquisition costs, and fixed costs actually declined by $5 million. Adjusted EBITDA was a record $237 million up 28% over the prior year and a record 28.2% margin was up 2.4 points on revenue over Q1. Adjusted EBITDA for the first half of 2012 increased 22% from a year ago to $445 million. We are increasing adjusted EBITDA guidance from $875 million to $900 million as a result of this strong performance.
Our long track record of cost-effective growth continued in the quarter. Contribution margin was down slightly at 70.6% from the prior year’s 70.9%, reflecting the statutory increase in music royalty rates and an increasing mix of OEM vehicles with revenue share. Subscriber acquisition costs increased 13% as installs and gross additions increased by 22% and 14% respectively; while [SAC] per growth add was flat at $54.
Fixed costs declined in the quarter on continuing reductions in programming costs, lower satellite and transmission costs related to reductions in in-orbit insurance, and lower engineering, design, and development costs resulting from the reversal of an accrual for nonrecurring engineering costs. Sales and marketing costs increased 10% in the quarter due to increased marketing efforts associated with increased funnel conversion opportunities and increased marketing opportunities to reactivate subscriptions.
We also reversed our deferred tax allowance in the quarter resulting in a tax benefit to earnings of approximately $3 billion. Another $112 million of tax benefit will be recognized in the second half of the year. The reversal of the deferred tax allowance was triggered by achieving three years of cumulative pre-tax income in management’s expectation of sufficient and sustainable future taxable income to utilize our NOL.
Free cash flow increased 39% over the prior year to $230 million in the quarter. We are on pace to beat our guidance of $700 million in free cash flow for the year and we currently expect to launch Sirius 6 as early as late December. We ended the quarter with $868 million in cash and $2.9 billion in debt. On July 25 we called the remaining 186 million of 9.75% notes at 104 7/8. We will redeem the notes on September 1. Following the repayment of those notes our gross debt will stand at $2.7 billion and gross debt to 2012 EBITDA guidance will be at our 3.0x target leverage, a significant improvement from 4.4x one year ago.
Our rapidly growing EBITDA has also improved interest coverage which increased to 3.3x in the quarter from 2.4x in the prior year. The retirement of the 9.75% notes will be followed in the next several months by the refinancing or retirement of our 13% notes due August 1, 2013. These two debt issues have accounted for $125 million of annual interest payments representing a significant opportunity for continuing improvements in interest coverage and free cash flow.
With that, Operator, let’s open it up for questions.
Certainly. (Operator instructions.) Your first question will come from Jason Bazinet from Citi.
Jason Bazinet – Citi
Thanks so much. I just have a strategic question for Mr. Karmazin. The FCC is out there talking about spectrum shortages for the wireless players and there was a move by Verizon to acquire Hughes Telematics a few months ago. And I was just wondering if you could elaborate a bit on how the world might evolve in terms of telcos getting maybe more interested in services in the car, and is that an opportunity for you to partner? Do you view it as a threat at all? Thank you.
Yeah, so obviously all of our competitors – and there are lots of competitors out there in a lot of different places – are interested in getting their content to consumers wherever the consumers want it. And that includes the cars. So obviously with internet penetrating the home, with mobile phones, the next logical place for people to start thinking about is how do they get their content into the car? And the people who are certainly positioned to be able to do that are the telcos, and you should assume that we have had a great deal over a period of time of comments and conversations with the various people who are potential partners for us.
We have also said to you that since we’re delivering this into the car that we also have data that we deliver into the car, and the idea of expanding into the telematics area is an efficient way for us to consider doing things as well. Having said all of that, we really like our core business. I know you’re talking strategy so I want to make sure that it’s clear that we have no urgent need to acquire anything. We were obviously aware that Hughes Telematics was potentially available and we did not express an interest in acquiring it. We normally wouldn’t talk about that before a transaction but since the transaction’s already made that is something that we did not feel that we needed to acquire.
So we have an interest in particularly anything involving the vehicle and reaching consumers in the vehicle. We know that it’s going to take many, many years for these wired cars to roll out with any sort of mass amount… I mentioned to you that we’re in, not going to be in but we are in two-thirds of all of the vehicles manufactured today. There is a relatively small numbers of vehicles that are being manufactured today that are enabling consumers to have a good user experience with IP. You can obviously bring your smartphone into the car and make phone calls, but the user experience for other content is not there. It will be a greater factor in the years to come and we think we’re really well positioned to either provide that kind of content or to be able to partner with others and do it together.
Jason Bazinet – Citi
Thank you very much.
Moving on, we’ll hear from Ben Swinburne with Morgan Stanley.
Ben Swinburne – Morgan Stanley
Thank you, good morning. Now one of the things that you did not list in your concerns, which you talked about the fiscal cliff and our situation in Washington – and it’s somewhat Washington-related: it’s the situation with SoundExchange. I just wondered if you could update us there at least on timing, and maybe while you’re not worried about it I think it’s something that investors are focused on.
And David, if you gave this in your prepared remarks I apologize, but it sounds like you got a good sense of how much the used car market is driving subscriber growth, either on the gross level or net level. And if that’s true I don’t know if you want to share some more statistics, either sort of year-to-date on the quarter how much that’s starting to factor in. I know it’s been tougher in the past to sort of isolate those subs but it sounds like you’ve got more visibility there.
Let me just give you an opening statement on the first part of your comment. I worry about everything, you know, so let’s just make it clear about that. But what I was looking at is that there is really nothing out there that was going to dramatically change our business model based on anything we know but those macroeconomics. Sure, every single contract that comes up we are making sure that we’re doing what’s in our shareholders’ best interest insofar as dealing with it and on the Copyright Royalty Board, that too, there is an agreement that we’re concerned about but let me let David update you on where we are.
Alright, so the CRB process, it’s effectively just like a trial. We went through a direct phase in June; the rebuttal phase of the trial continues actually next week, and then in I believe early October it’s that counsel will provide what amounts to closing arguments to the panel of judges who will render a decision in December. We don’t really have any great insight into what the outcome of that will be other than what the timing is. We like our case; we like our case better than their case and so we’ll work through litigation and see where it comes out.
On the used cars, nothing’s really changed on it other than we do track it. I still don’t think that it’s really kind of fit for separate reporting. A big part of what we have in terms of second owner volumes come from what we call hand raisers – people who pick up the phone and call us. And it’s not always clear when a hand raiser is calling us, whether or not that’s actually a new owner of the car or whether or not the name is just configured differently on the account. So it is a robustly growing segment of the business.
As Mel said, the significant increases in new car incorporation really got underway about five, six years ago and since average first car ownership is about six years’ long we’re beginning to see those turnovers now. So the best way to sort of get a sense of what the used car opportunity is going forward is to look back at what we’ve publicly reported as gross additions from the past. As we talked car penetration and what the SAR was you get a pretty good estimate of what our installs were historically, and then you can kind of get what it will look like in the next few years.
This is Mel. We’re clearly expanding internally our resources in the second owner market. The size of that market, though we haven’t tapped a way to get to all of it, is larger than what the SAR number is, right, as far as new cars are concerned. So this is something that’s real, this is something that we are generating subscribers contributing toward our extraordinary growth in Q2 was the second owner; and it’s something that’s going to continue for many years to come.
Ben Swinburne – Morgan Stanley
Thank you, Mel and Dave.
Moving on we’ll take our next question from James Marsh of Piper Jaffray.
James Marsh – Piper Jaffray
Thanks very much. Just a quick question on On Demand here: I hope you can discuss some of the challenges and which ones seem to be most prominent. Obviously you’ve got technological challenges in delivering it, you’ve got some licensing issues with the various rights holders; and then you’ve got the issue of simply promoting this service to your subscribers. Could you just talk through some of those challenges and which ones are the most important or the biggest ones in your mind?
Okay, so let me touch the last one first and then I’ll let Jim come in, and Scott can add anything else. Fortunately it’s real easy for us to promote it and not very costly to promote it because as you mentioned, they’re all our existing subscribers. So we know exactly where they are, we know that they’re listening to our service; so the combination of having their email and communicating with them as well as our reaching them through our service is the way that we will very efficiently promote it. And Jim can talk to it.
This is Jim. I just want to comment on the technology, and I want to go back to a comment Mel made in his remarks which is this is an important step for us as we continue to invest in and build out our IP infrastructure to provide an experience to our subscribers that in our mind combines the best of satellite, broadcast, and IP. The technical challenges for us were different but I wouldn’t say insurmountable, and we’re pretty pleased with where we are right now getting it built out.
It’s important also to note this is the second big step in the IP roadmap this year that we’ve delivered, the first one being about three months ago when we delivered increased functionality to all our subscribers with new features, StartNow and some other important things. And we will then deliver again by the end of the year our third step with Personalized Radio.
Great. I just wanted to add with 150 channels and different programming going on all the time, it’s literally impossible for all our subscribers to consume the content that we’re so proud of. And with this and the promotion obviously on air of different channels including the channels that some of the programs live on, it’ll be really easy for a lot of our subscribers now to hear content they may have missed whether due to drive time or schedules or personal convenience. So we’re pretty excited about making this an even stickier subscriber based on the fact that they’ll get even more programming when they want.
So we’re not reinventing the whole world. Obviously set-top boxes in televisions enable people to get content on demand. We saw that the results in the television world was that it made subscribers stick, stay longer and contributed towards their enjoying experience which contributed toward higher prices. So you know, we’re doing something in radio that really hasn’t been done much and we think our subscribers are really going to love it.
James Marsh – Piper Jaffray
Thanks very much.
Moving on we’ll take our next question from Barton Crockett with Lazard Capital Markets.
Barton Crockett – Lazard Capital Markets
Okay, great, thank you for taking the question. I was wondering if you could update us a little bit on, well it may be an unanswerable question but where discussions are between Sirius and Liberty. You’ve both had filings that there is some level of interaction. I think we all assume that Liberty’s potentially interested in a tax-free exit maybe with a reverse (inaudible) trust structure. But if you can shed any light in what is happening there, and also in a related question: Mel, I know your contract comes up for renewal at the end of this year. You suggested a degree of I think reluctance to work for Liberty, and I’m just wondering if that gets tied up into discussions with them about what they do with their stake and if you’ve begun discussions with the Board about potentially renewing after 2012?
So on the first point, we really have nothing new to report. Obviously we are engaged with Liberty; we speak to them from time to time on what their interest is. Clearly Liberty has to decide what they want to do and maybe they’ve done that already but they have not exactly communicated that to us. And when we hear what Liberty wants to do we will clearly respond.
On the second part of your question, I think that I’m the biggest believer in free speech and I don’t question anyone’s ability to do the right things. But the fact that I was asked a question two years ago about working for somebody and I told them that my experience at Viacom was such that I didn’t enjoy and I like working for a Board as compared to working for a controlling shareholder was something that I said. And then every time the discussion of Liberty comes up somebody is coupling my name into that.
I can assure you that our Board and I are interested in trying to accomplish whatever Liberty wants to do as long as it’s in all of our shareholders’ best interests and that there is no issue involving Mel that has anything to do with the current conversations with Liberty at all. Regarding my contract, it doesn’t expire until the end of the year, and prior to the Q3 earnings call, prior to our next call I think the Board and I will deal with it.
Barton Crockett – Lazard Capital Markets
Okay, that’s great to hear. I also wanted to ask just a numbers question. Can you remind us what percentage of subs were hit with the price hike in the quarter and what more have to come?
I think, Barton, in the Q1 call I think I said we were at about 35% and in this call I said we were about 50%, so it would be that incremental 15%.
Barton Crockett – Lazard Capital Markets
Okay, great. Thank you very much.
Moving on we’ll take our next question from Vijay Jayant from ISI Group.
Vijay Jayant – ISI Group
Hi. I have just more housekeeping questions. First, David, just from the engineering design development number that’s down substantially, is that the near-term line? And second, the significance of the deferred tax valuation reversal, does that mean that going forward you’re going to be fully taxing on your income statement, on your GAAP income statement but obviously reversing that on your cash flow statement on taxes?
So on the engineering, design, development no, I wouldn’t say that’s the new trend that you should expect progressively declining engineering, design, development. We did have a contract renegotiation that occurred in Q2 that resulted in the release of some accruals. But overall we’ll continue to take what are probably similar dollars in engineering, design, development and find new innovative ways to spend that money. It should remain consistent with our prior trend statement.
For taxes what we’ll be doing going forward is reflecting the tax expense offset by the utilization of the NOLs. I haven’t looked at a forward P&L for exactly how that’s going to play out on a GAAP basis, but you should expect us to be using our deferred tax assets that are now recognized on the balance sheet to shield income from taxes going forwared.
Vijay Jayant – ISI Group
Great, thank you.
And moving on we’ll take our final question from Jim Goss from Barrington Research.
Jim Goss – Barrington Research
Thank you. A couple of them: one I think for David, I was wondering if you could target your desired debt level. You’re getting to a level at about 3:1 and if you factor in cash closer to 2:1, and you probably don’t really need to go any lower in terms of leverage level, and it’s mainly just repaying the higher cost [thus] saving debt. And to the extent that once you got to that desired level share repurchases might be less, at least momentarily less desirable until the Liberty issue has been resolved. I’m wondering both the level of debt you’d like to get to and what would be the best options for cash at this moment.
So we have a longstanding target of 3x EBITDA in terms of leverage and so we’re sort of at that level now. We have de-levered a little bit and as EBITDA continues to grow certainly we can re-lever a little bit and maintain that 3x level. In terms of what we do with cash, we do have near-term maturities that it’s probably going to make sense to take care of the 680 million or 690 million of remaining 13% notes that are due next summer. That’s a substantial near-term maturity. We certainly have the cash and liquidity to handle that quite easily but it will probably make sense for us to take a good look at the opportunities available to us in the long-term debt market as well as the bank markets for reducing interest costs on the debt we do put on the company.
Yeah, and I think regarding what we do with our cash it’s something that the Board will certainly address. And management feels very comfortable when we get to the leverage ratios that David talked about getting to, that we would be in a position at that time to go to the Board and discuss what management’s recommendation is as to what we would do with the cash. Based on sitting here today I could tell you that there really is no acquisition that the company is interested in.
I can also tell you today that we are planning to considerably, as we have been doing, investing in the growth of our existing company. So if you think about the fact that we’re currently investing in the growth of our company, we don’t have any acquisitions to make I think it really puts us in a good position to figure out the best and most efficient way to benefit shareholders by having all that cash and the additional leverage that we have available to us as well.
Jim Goss – Barrington Research
Okay. And one other question for Mel: in the past, historically you’ve had a significant advertising focus certainly coming into Sirius XM. It seems like your tone has softened because of the robust nature of the subscription model. Have you started to change your attitude at all or shift your attitude in recognition of the sort of bullet-proof nature of the subscription model? Or do you think there is some opportunity on the advertising side as relatively small as it is in context going forward?
Yeah, I don’t think my tone has changed recently at all. Just for the record I’ve been a seller of media, like I sold Infinity to CBS and then I sold CBS to Viacom and certainly the internet has changed. When we sold CBS to Viacom we sold our cash flow that we had in the Radio Group at 20x cash flow, and that price again was warranted at that time based on growth rates. The internet has created so much additional supply for advertising that in general I believe the advertising business is a much more difficult business today than it was in the past. There’s still a whole lot of business being done in it, it’s just less good; and the things that do really well are things like the highest-rated TV shows and the Olympics and the Super Bowl.
I think that the advertising business is going to be even more challenged as a whole lot of people are getting their content on mobile and the ability for companies to monetize the mobile advertising experience is even more challenging. So I think that when I first came to Sirius eight years ago I believed that we had an opportunity to take 10% of our revenue in the form of advertising. I don’t believe that that is likely. I believe that our advertising will continue to grow particularly as we do creative content deals, but I don’t believe that you should think that advertising is going to be a significant driver of this company.
Jim Goss – Barrington Research
Okay, thank you.
I think that’s it, Operator. Thanks everybody for joining us.
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