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XM Sustains Torrid Pace

By | May 10, 2004

      Washington, D.C.-based XM Satellite Radio [XMSR] appears to be revving up its growth engine after announcing strong first-quarter results and several catalysts that could accelerate its already blistering pace. The company is leaving little opportunity for its late-to-market rival, Sirius Satellite Radio [SIRI], to cut into XM’s big subscriber lead.

      The company reported a number of positive performance trends last week when it unveiled its full results for first quarter 2004, supplementing its pre-earnings announcement that it amassed 1,681,903 subscribers by the close of that quarter, fueled by 321,675 net new subscriber additions. Rival Sirius tried to grab headlines of its own last Thursday when it announced the hiring of two new top-tier executives to head key parts of the company but the spotlight belonged to market-leading XM.

      When all of XM’s first-quarter financial results are combined, it becomes clear the company’s upward trajectory is indisputable. XM President and CEO Hugh Panero said during the company’s conference call with analysts last week that it was achieving “hockey stick” growth and that it reduced subscriber churn. Right now, XM’s growth numbers back up his claims.

      In 1Q04, XM more than doubled its net subscriber additions of 135,916 compared with the same quarter in 2003, comprising 83 percent of all satellite radio customers. That market share was virtually the same as the close of fourth-quarter 2003, when the company accounted for 84 percent of U.S. satellite radio subscribers.

      Although Sirius is trying to make inroads — and it is showing some encouraging signs — XM claimed it maintained its leadership position in the retail aftermarket by gaining a 70-percent market share among net new satellite radio retail subscribers during first quarter 2004. Sirius is citing research from the NPD group that it nabbed a 44 percent share of the aftermarket in March but that number needs to be maintained for an entire quarter and documented in the company’s Securities and Exchange Commission financial filings to provide evidence a marketplace shift is occurring.

      XM’s subscriber growth in first quarter 2004 was fueled by the company’s move to eliminate advertising completely on all 68 of its music channels during February as well to introduce compelling new content and services the same month that included XM Instant Traffic & Weather, Panero said. The company’s momentum also was maintained by adding more General Motors [GM] and Honda vehicle models to offer the service as a factory-installed option, he added.

      Slashing SAC

      One of XM’s most impressive accomplishments is that it is slashing its subscriber acquisition costs (SAC) significantly each quarter. In contrast, U.S. satellite TV service providers DirecTV and EchoStar Communications [DISH] have been heading in the opposite direction as big cable TV operators are raising the stakes by spending money liberally to retain subscribers.

      Faced with competition largely from late-to-market U.S. satellite radio operator Sirius, XM cut its first- quarter 2004 Cost Per Gross Addition (CPGA), a comparable measure to SAC, to $106, down from $156 in first-quarter 2003. That “dramatic” 32-percent reduction in CPGA was spurred by strong subscriber additions during the quarter, and to the efficient use of discretionary media and advertising dollars, Panero said.

      XM’s CPGA of $106 “bested” the $122 predicted by Bear Stearns due to the higher number of gross adds spread across advertising spending, explained Bob Peck, Bear Stearns’ satellite analyst.

      The company also substantially improved sales during first-quarter 2004 by reporting record revenue of $43 million, up nearly 230 percent from $13.1 million in first-quarter 2003. Revenue for first-quarter 2004 grew roughly 30 percent from fourth-quarter 2003’s $33.5 million. With fixed expenses of $37.1 million in first-quarter 2004, this is the first time XM’s quarterly revenues exceeded its fixed expenses, company officials noted.

      XM’s monthly subscriber churn in first quarter 2004 was 1.35 percent, according to Peck’s calculations. He had expected 1.5 percent.

      Despite XM’s solid subscriber performance, the company’s bottom line suffered, due in part to a one-time, non-cash charge of $25.6 million and marketing expenses. That charge was taken to account for deferred income taxes associated with the company’s intangible assets. As a result, XM’s EBITDA loss of $78 million during first-quarter 2004 was worse than its EBITDA loss of $63.3 million during first-quarter 2003. The company’s 1Q04 EBITDA loss was slightly higher than the $75 million Peck had estimated.

      In addition, XM’s net loss for the first quarter of 2004 widened to $170.1 million, compared with a $126.3 million net loss in the first quarter of 2003.

      XM also appears safe for now on the liquidity front. It remains on course to reach cash flow breakeven during the first half of 2005. Last month, it improved its cost of capital with a $200 million floating-rate note offering that carries a modest interest rate of LIBOR plus 550 basis points. In addition, XM received approximately $32 million in cash proceeds through GM’s exercise of a warrant to purchase 10 million shares of XM Class A Common Stock.

      On the heels of those April transactions, XM recently began eliminating approximately $150 million of debt, on a future value basis, from its balance sheet. The company intends to pay off approximately $75 million of a GM credit facility and a $35 million note to Boeing [BA] as well as a call for redemption of $17 million of 14-percent Senior Secured Discount Notes and $20 million of 12-percent Senior Notes.

      In addition, XM ended first-quarter 2004 with $385 million in cash and an additional $50 million of capacity under its credit facilities from GM. That gives the company liquidity of $435 million as of March 31.

      Sales Catalysts

      Despite the charge-related bottom-line setback, XM should be aided going forward by such developments as the launch of a new data service, expanded original equipment manufacturer (OEM) sales from auto makers, and improved liquidity and cost of capital.

      On the data services side, XM NavTraffic is a navigation information service first unveiled at the New York Auto Show in April by Honda, becoming the nation’s first satellite traffic-information service that combines traditional Global Positioning System (GPS) capabilities with real-time traffic information. The product highlights traffic patterns and problems, construction zones and alternate routes — including the difference in travel times to destinations with and without traffic congestion.

      Honda will introduce XM NavTraffic this fall as a standard feature on its all-new 2005 Acura RL. GM is expected to offer XM NavTraffic as an option on select 2005 Cadillac CTS vehicles later this year. Cadillac traditionally is the car line GM uses to roll out what its officials regard as the company’s best new technology features.

      While Sirius is still looking to gain OEM traction, XM is cruising down the road and gaining speed. Honda announced it will double production of Acura and Honda vehicles featuring XM Radio for the 2005 model year from 200,000 vehicles to 400,000. In addition, the auto maker plans to increase the number of Honda and Acura models offering XM Radio as a factory-installed standard feature from three to seven in model year 2005.

      GM, a traditional technology innovation leader among automobile manufacturers, will offer XM in every one of its U.S. models during the 2005 model year that begins this fall. GM and Honda are on track to manufacture more than 1 million XM factory-equipped vehicles during the 2004 model year (combined figures) and to boost that number to 1.5 million vehicles during the 2005 model year, XM officials said.

      Products Plentiful

      Another positive sign for XM is that it is not encountering any product shortages that could stunt its growth, Panero said. In contrast, Sirius has struggled to supply its distribution chain as it tries to cut into XM’s overwhelming sales lead. Sirius had only 351,663 subscribers at the end of first quarter 2004 compared with nearly 1.7 million for XM.

      Next generation chipset will be rolled out in the next couple of months to keep XM in the technology lead, Panero said.

      Jim Collins, vice president of corporate communications at Sirius, said the hiring of two new executives by his company last week shows that it is “morphing” into more than music and talk. Data, traffic and in-vehicle video services will fuel that next big wave of the sector’s growth, he added.

      “We needed extra additional expertise to take it to the next level of our development,” Collins said. “Both individuals bring a depth of knowledge in their respective areas. They will be involved in helping to refine the strategy that we now have in place.”

      James Meyer was hired as president of operations and sales at Sirius. He will take responsibility for overseeing and directing all operations and sales, including Sirius’ automotive OEM business, retail markets, product management, strategic partners, engineering functions and geographical expansion.

      Prior to joining Sirius, Meyer was president of Aegis Ventures, a general management consulting company. He also has held a number of senior management positions in the consumer electronics industry.

      Scott Greenstein joined Sirius as president of entertainment and sports. His role is to oversee all programming, marketing and corporate marketing. Greenstein previously served as chairman of USA Films and co-president of October Films.

      Sirius is well-positioned from a cash standpoint to fund the company’s operations until it is expected to reach cash flow breakeven by year-end 2005. Indeed, it ended the first quarter of 2004 with more than $700 million in cash and scant debt.

      Sirius Boost

      Later this month, Sirius music will be available to a majority of the nine million subscribers of EchoStar’s DISH Network satellite television service under a previously announced joint marketing program. Also this month, giant U.S. retailer Wal-Mart [WMT] will begin offering a Sirius portable Plug & Play product and Boombox.

      Later this summer, Sirius will be available in the seven thousand RadioShack [RSH] stores across the country. The timing would allow Sirius to capitalize on the beginning of build-up for the next NFL season. Sirius will be broadcast virtually all the NFL games as part of a long-term contract with the league and all its teams.

      Sirius also is gaining more support for OEM unit sales from DaimlerChrysler AG [DCX] in the United States. However, Ford [F] has been slow to move toward factory installation of Sirius units as it attempts to carry out a financial turnaround that has shifted its attention toward automobile manufacturing challenges and away from accelerating the introduction of satellite radio.

      –Paul Dykewicz

      (Chance Patterson, XM Satellite Radio, 202/380-4318; Bob Peck, Bear Stearns, 212/272-6665; Jim Collins, Sirius Satellite Radio, 212/901-6422)

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