A few days ago when I wrote an article about the dramatic change in the short position at Sirius XM (SIRI), I merely mentioned the fact that earnings at Sirius were projected by some analysts to come in 50% higher for Q3, and they are expected to double in Q4. This would be an EPS of 3 cents for Q3. Most investors welcomed the news, but it brought arguments from two readers who think the cost of retiring, and refinancing the debt at Sirius is going to cost millions. They strongly feel that there is no way for Sirius to have earnings above 2 cents a share for Q3. Here are those projections from Yahoo financial:
|Earnings Est||Current Qtr.|
|No. of Analysts||12.00||12.00||10.00||11.00|
|Year Ago EPS||0.02||0.01||0.07||0.55|
As you can see, 3 cents is not only the high estimate, but it is also the average estimate for Q3. After a tremendous amount of research, I wrote another article focusing on the track records of the analysts, and their ability to predict these earnings. For those of you that did not read the article, here is an excerpt:
First of all these are not just some random people on an internet message board. These are top notch individuals who Yahoo has selected as experts regarding Sirius XM. Below are the analysts that Yahoo Finance lists:
This is a list of top research analysts based on the accuracy of earnings estimates on SIRI, according to StarMine. Analysts that appear here are limited to those covering SIRI for a significant period of time. Learn More.
|Total Ranked Analysts: 14|
|EPS Accuracy for SIRI - Trailing Two Fiscal Years and Four Quarters|
- Bank, David of RBC Capital Markets
- Bazinet, Jason of Citi
- Crockett, Barton of Lazard Capital Markets
- Hamby, Tim of Janco Partners, Inc.
- Jayant, Vijay of ISI Group
- Kraft, Bryan of Evercore Partners
- Marsh, James of Piper Jaffray
- Ratcliffe, James of Barclays
- Tinker, John of Maxim Group
- Wlodarczak, Jeffrey of Pivotal Research Group
- Yong, Amy of Macquarie Research Equities
However, these same two individuals argued that the analysts had predicted the Q3 earnings, without having the knowledge that so much debt would be redeemed in the third quarter. And that they probably did not consider the cost of these debt redemption transactions, especially $681 million dollars worth of notes, in their models. The 3 cent per share upgrade from Yahoo analysts that I reported, happened about a week ago, right when the press release about the debt came out. This added fuel to the fire, that the experts really did not have the current information about the debt being redeemed. I admitted that maybe they were wrong, and started to research it further. Who knew that the good news about paying off debt could be considered bad news, and cause such drama. But here is the story that has caused such a firestorm:
Sirius XM Radio announced today that, on September 20, 2012, it will redeem all of its outstanding 13% Senior Notes due 2013 (the "13% Notes"), at a redemption price equal to the sum of the present values of the principal amount and the remaining scheduled payments of interest on the 13% Notes to be redeemed discounted to the redemption date, plus accrued and unpaid interest (the "13% Notes Redemption"). As of August 21, 2012, $681,517,000 of the 13% Notes is outstanding.
Pro forma for the 13% Notes Redemption, the previously announced redemption of its 9.75% Senior Secured Notes due 2015 and the issuance on August 13, 2012 of $400,000,000 of 5.25% Senior Notes due 2022 (the "5.25% Notes"), SiriusXM would have had $2,441,095,000 of total long-term debt as of June 30, 2012.
"The successful issuance of the 5.25% Notes and our strong cash position allows us to retire all of our 13% Notes more than 10 months prior to maturity," said David Frear, Executive Vice President and Chief Financial Officer, SiriusXM.
However on the last Sirius Q2 conference call (August 7), Sirius CFO David Frear told investors, and Wall Street analysts that the company would be either refinancing or retiring those 13% notes right after the 9.75% notes:
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.
Considering that Frear said "next several months" on August 7, I think most analysts would have taken these notes into consideration for their Q3 models. There were still 2 months left in Q3 when the announcement was made. Therefore I think they included these costs in their estimates. But, if that was the case, there must be some additional income somewhere that they are using to offset these costs.
One reader asked me to make my own model to prove that all of those analysts were right. Below is an unaudited income statement for Q2 which I chose because it is very easy to read. In my Q3 model, I have approximated, and rounded. I have always focused more on the big things, so for all of you that are really into details, I apologize in advance. Everything in my model is pure speculation, based on my research:
SIRIUS XM RADIO INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
For the Three Months
For the Six Months
(in thousands, except per share data)
Advertising revenue, net of agency fees
Cost of services:
Revenue share and royalties
Programming and content
Customer service and billing
Satellite and transmission
Cost of equipment
Subscriber acquisition costs
Sales and marketing
Engineering, design and development
General and administrative
Depreciation and amortization
Total operating expenses
Income from operations
Other income (expense):
Interest expense, net of amounts capitalized
Loss on extinguishment of debt and credit facilities, net
Interest and investment (loss) income
Other (loss) income
Total other (expense) income
Income before income taxes
Income tax benefit (expense)
Realized loss on XM Canada investment foreign currency adjustment, net of tax
Foreign currency translation adjustment, net of tax
Net income per common share:
Weighted average common shares outstanding:
First we have to determine revenue. Based on the newest guidance from Sirius, the company expects the revenue to be $3.4 billion for 2012. The revenue for Q1 was $805 million, and Q2 was $838 million, for a total of $1.64 billion. This leaves $1.76 billion left for Q3 and Q4, which is $880 million per quarter. The major thing to consider with this number is that it is based on the latest sub guidance from Sirius of only 1.6 million net sub additions. Since 1 million new subs were added in Q1 and Q2, this only leaves 600 thousand left to add for the rest of the year.
Considering how conservative CEO Mel Karmazin is with guidance, I think this number is extremely low. Q3 and Q4 should be able to produce at least as many subs as the first two quarters. So, if there is an additional 400 thousand subs, there could be another $20 million in revenue for 2012. I think Q3 will have revenue of $880 million and Q4 will come in at a hefty $900 million.
And, I believe that a lot of people are not considering the impact of the new Sirius On Demand Apple (AAPL) App. If only ten percent of the current subs add this to their existing sub for $3 a month, it could add another $70 million a year in revenue. This is the killer App, and it may be just as beneficial to Apple investors as it is to Sirius shareholders. How much it will affect these last two quarters is hard to know, but I think it will be enough to insure the revenue number of $880 million for Q3. These are the analysts estimates:
|Revenue Est||Current Qtr.|
|No. of Analysts||11||11||14||13|
|Year Ago Sales||762.55M||783.74M||3.01B||3.40B|
|Sales Growth (year/est)||13.40%||13.70%||12.90%||11.60%|
Karmazin remarked (in the CC above) that the operating expenses of $610 million for Q2 were only 7% higher than last year. I think some of those operating expenses may be high based on the fact that the company recognized $3 Billion in NOLS in Q2. In other words (in my opinion), there could have been some Q3 expenses put into Q2. For instance, when you know that you are going to have a good quarter, you buy more supplies that will last through the lean times. That is only speculation, but I have seen it happen a lot as a District Auditor. So I will assume that the operating expenses are going to be around $622 million for Q3. This makes income from operations $258 million. After subtracting "other income and expenses" of (possibly) $90 million (which it was in Q2), income, before taxes, would be $168 million. This is 3 cents a share.
However, there is an even larger amount of money that the experts may be counting. This was a statement made by Frear in the same conference call referenced above:
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.
Now there are some that will argue that this money could be used in Q4. That is true. But since the professional analysts have predicted that Q3 will have earnings of 3 cents a share, versus 2 cents for Q4, I think it would be very safe to say that these NOLS will be recognized in Q3. So, adding $112 million to $168 million equals net income of $280 million. There are some individuals, as I mentioned that think the expenses involved in the early redemption (and other costs) of the debt may be an additional $30 to $100 million. In the worst case scenario, the earnings could be $180 million, which would still be three cents a share. And those expenses may not be $100 million. If the expenses are only an additional $30 million we could see 4 cents a share.
Since Frear said that the 13% notes would be redeemed in the next several months, and that the $112 million would be recognized later this year, I am going to assume that the company planned to use these NOLS to offset the expense of the debt reduction. On August 7 when these statements were made, company officials may not have known for sure which quarter the transactions would take place in. That is why the timing seemed vague at the time of the CC. But now it appears to be Q3.
So I am sticking with the professionals. A lot of times they have access to information that the rest of us miss. I think they are right about their estimates of .03 EPS for Q3. And I think Q4 will be record-breaking. I am waiting to diagnose it when Q3 results are in, because the guidance will probably be raised again. If you have not bought a piece of this cash cow yet, this might be a good time.
Additional disclosure: I may buy Sirius XM stock in the next 72 hours.