By Relmor Demitrius
Sirius XM Radio (Nasdaq:SIRI) is set to announce its 4th quarter earnings in February. A press release from Sirius XM last week has offered a small glimpse at what will be expected when they officially release their 10-Q filing. Before we delve into the Q4 numbers, let us first review what we were already given by the company.
The conference call was announced in the press release to be in February. In Q4 they added 257,000 new subscribers. They added 247,000 self pay subscribers, which means they are permanent paying customers, not counted as a subscriber from any promotional means. This is a nice boost to a company already churning in free cash flow from last quarter. Sirius XM has been touting that since operating income has been achieved, every new dollar over that will see 70 cents to the bottom line. This is an impressive accomplishment for any business model.
The press release also informed us that over 100 million in free cash flow had been achieved for the entire year of 2009, making good on Mel Karmazin’s, CEO of Sirius XM Radio, guidance from the end of 2008. Upon entering the quarter Sirius XM had 35 million in free cash flow (FCF from here on), which means that Q4 will see at least 65 million in FCF. FCF is a metric used by investors to gauge a company’s ability to repay debt, make acquisitions, pay dividends, and buy stock back. Mel Karmazin and Sirius XM realize the importance of this metric, and have been reporting it, and emphasizing its importance to this company. It’s not hard to shuffle a few things around, and report a profit for one quarter based on earnings. It’s another to grow FCF quarter in and quarter out, and show continued ability to grow cash on hand or remove debt obligations. Sirius XM has been doing just this lately. It removed 2 convertible bonds due in December of 2009 with cash, totaling around 90 million dollars, and paid 59 million dollars on other debt as well. This payment went to the 10% Senior PIK Secured Notes due 2011.
Since Sirius XM had cash on hand at 380 million dollars entering Q4, and expecting to keep growing this total, it’s not hard to see why they chose to pay a large portion of debt due in 2011 now. This saves interest payments and helps minimize cash flow problems in the future. This also allows investors to see responsible spending of cash on the part of Sirius XM. This appears now to be no cash starved company, desperate for loans from Liberty Media only 1 year ago, which took a 40% stake in Sirius XM. Liberty Capital (Nasdaq:LCAPA) is where Sirius XM’s 40% stake owned by Liberty Media can be found.
Let us look at what we don’t know now, and go over what the rest of the numbers for Q4 might look like. I will determine total revenue, operating costs, free cash flow, earnings, subscriber acquisition costs (SAC), and average revenue per user (ARPU).
First thing we will look at is ARPU. This metric has been steadily improving since the merger and the beginning of the year. As higher fees get worked into more subscriber penetration, such as internet charges, increase in family plan rates, 2nd subs, and royalty charges, this will continue to improve. Here is the language Sirius XM used in their Q3 filing to explain ARPU for Q3.
“The increase was driven mainly by the sale of “Best of” programming, increased rates on our multi-subscription packages and revenues earned on our internet packages, partially offset by lower ad revenue.”
Q3 of 2009 ARPU was $10.87. In Q4 of 2008 ARPU came in at $10.80. Q4 is a relatively strong ARPU quarter traditionally, so with guidance from Sirius XM we are going to bring this metric for Q4 up to $10.95. This continues the pattern of increased revenue from each subscriber.
Q4 ARPU : $10.95
Next I will look at SAC. This is the cost to acquire each subscriber. With retail subscribers this number is relatively low, if not a net positive depending on the retail buy. OEM (car adds) are what cost money. As more retail radios are bought versus OEM radios proportionately, this has great potential for continued improvement. Also smarter penetration in OEM deals should aid this metric as well. SAC for Q3 of 2009 came in at $69. So each subscriber cost Sirius XM around $69 to acquire. These costs include rebates, promotions, payments to car makers, cost of the radios, and subsidies to third party radio manufacturers. In 2008 Q4, SAC came in at $70. Let’s see what Sirius XM has to say about this metric going forward in Q3. These comments are always referring to year to year comparisons. In Q3 of 2008 SAC was $74.
“The decrease in SAC was primarily due to lower OEM subsidies and lower aftermarket inventory settlements partially offset by higher OEM subsidies on installations compared to the three months ended September 30, 2008.”
Lower OEM subsidies means that since Sirius XM Radio is now merged, there is no competing for OEM deals any longer, and the first fruition of this came this year, when GM renegotiated their existing OEM contract to more favorable terms to Sirius XM. Another factor in lower SAC could be attributed to less GM and Ford car sales, where their contracts are not as favorable, compared to other OEM deals. I see continued improvements in these areas in Q4, and it should reflect in SAC.
Q 4 SAC: $66
Revenue for Q4 should be an improvement over Q4 of 2008. The weighted average subs to generate subscriber revenue will be slightly lower this quarter, however improved ARPU, royalty charges, and other improving conditions should allow a new revenue record for Sirius XM.
Here are the numbers as I see them.
Subscriber Revenue: Using 18,550,000 (subscriber weighted average) and the 10.95 ARPU figure we calculated earlier would give us $609,367,500.
Now we will add these figures to that number.
Activation Fees: 15 million (Higher due to improved retail market)
Advertising Revenue: 15 million (Slightly higher due to slightly improved economic conditions)
Equipment Revenue: 11 million
Royalty Revenue: 25 million
Other: 4 million (investments, etc…)
Totaling up these numbers gives us $680,000,000 in total revenue.
Having completed revenue estimates, we are ready to take a look at total operating costs.
Here is my cost breakdown with comments.
Satellite and Transmissions: This will go up due to capital expenditures on this line item for Q4. These costs were already given to us in the Q3 report, so this will be directly from the Q3 filing.
$34,685,000 will be attributed to this line item.
Programming and Content: This is a relatively stable line item, but some synergies of the merger will help reduce this greatly over time, as contracts expire and need to be renegotiated.
Sirius gives this line item on their Q3 report at $87,638,000.
Revenue Share and Royalties: I don’t see this dropping. $100,000,000
Customer Service and Billing: $56,000,000
Cost of Equipment: $15,000,000
Sales and Marketing: $80,000,000. Sirius XM launched an aggressive advertising campaign to promote the brand in Q4. This expense is greater than previous quarters.
Subscriber Acquisition Costs: Any gains quarter to quarter will be offset by more OEM adds in Q4 versus Q3. $90,000,000
General and Administrative: 50,000. This should be relatively flat.
Engineering, design, and development: $12,000,000.
Depreciation and Amortization: $60,000,000. We know 17 million will be amortization for Q4, as provided by Sirius XM on their Q3 filing. Adding 53 million in deprecation here.
This gives a total operating cost of $590,315,000.
Having calculated revenue and costs, we can now determine our last two numbers for Q4.
Free cash flow is determined by taking net income, adding back in depreciation/amortization, subtracting capital expenditures, and the changes in working capital. Using the method Sirius XM uses to calculate FCF, we will get around $70 to $85 million in FCF for Q4. Sirius XM in their press release promises at least $65 million here. It should be a tad over that, as they do say “over 100 million” for the year 2009. Having $35 million entering Q4, that gives us a minimum of $65 million here.
FCF: $75 million dollars.
For earnings, using 10 million in charges, and reducing net income by 68 million in interest payments due in Q4, we are left with around $15 million in earnings.
Earnings: .004 cents per shares.
This will probably be reported as “even” earnings for the quarter. Seeing how close this number is to the around $35 million needed for .01 cent earnings, it might be too close to call at this point. Either way, both possibilities will beat the street of a .02 cent loss consensus.
All in all it should be a historic quarter for Sirius XM. FCF for the entire year is huge, and first ever reported break even earnings are validations in a business model long questioned by media and analysts alike. Continued subscriber growth, controlling operating costs, increased band awareness, exciting new products and greater accessibility to the product (Apple Iphone/Skydock, Iphone application, internet, Garmin devices, new line of radios), all the while maximizing revenue opportunities, has given Mel Karmazin the ability to guidance out 20% revenue growth for 2010 and the continued ability to add subscribers.
Disclosure: Long SIRI