New York-based Sirius Satellite Radio [Nasdaq: SIRI] expects the rest of 2003 to be a banner year for the satellite radio provider in terms of subscriber growth.

The company’s management may have good reason for its optimism after nearly doubling its subscriber numbers during the first quarter, reaching 68,000 from 38,000 at year-end 2002. Management also expects 300,000 subscribers by year-end, up from 30,000 at year-end 2002.

At the same time, subscriber acquisition costs (SAC) and earnings before interest, taxes, depreciation and amortization (EBITDA) went in the wrong direction during the quarter.

The results are related, since the company splurged on acquiring new customers in an effort to fuel growth. Sirius is far behind Washington-based rival XM Satellite Radio [Nasdaq: XMSR] in subscriber acquisitions.

The cost of spurring sales caused SAC to rise and forced the company’s adjusted EBITDA loss to swell to $75 million at the end of the first quarter, up from an adjusted EBITDA loss of $36.2 million during the same quarter of last year. Sirius uses adjusted EBITDA to show its bottom-line performance; the company then factors in interest and investment income, interest expense, depreciation expense and debt restructuring.

The first-quarter performance left Wall Street satellite analysts unconvinced that the company’s stock was worth recommending. For example, three seasoned satellite analysts, Deutsche Bank’s Karim Zia, Bear Stearns’ Bob Peck and Merrill Lynch’s Marc Nabi, opted not to upgrade their rating of Sirius after evaluating its prospects.

However, Zia takes a positive view of the company’s potential for later in the year. He highlighted a number of milestones that Sirius could achieve in the coming months to help it regain traction in the eyes of investors.

Momentum Is Building

In Zia’s view, developments that point to an upward trajectory for the company include:

• A new capital structure stemming from a $1.2 billion first-quarter recapitalization;
• Management’s ability to focus on day-to-day operations, now that its financing situation has been resolved;
• A surge in subscriber growth, making up some “lost ground” on XM;
• New product introductions in second half of the year, including two plug-and-play units; and
• Automobile manufacturers Ford [NYSE: F], BMW and DaimlerChrysler [NYSE: DCX] stepping up distribution of Sirius units this fall.

Despite that forward-momentum, Zia noted that Sirius has higher financing needs than the company has admitted so far. Sirius acknowledges that it will require $100 million in additional financing before it could reach cash flow break-even. The company claims to have enough cash to operate into the second quarter of 2004.

That $100 million financing gap, combined with business plan execution risks, caused Zia to reiterate his “hold” rating on the stock.

Peck is maintaining an “underperform” rating on Sirius, after analyzing its first quarter results. He said that further developments could lead him to “revisit” the company’s ranking.

“While we are pleased with the company’s progress thus far, we still think there are many questions and challenges that the company needs to address over the coming months,” Peck wrote.

Nabi is the most negative about satellite radio stocks. He continues to keep a “sell” label on Sirius but is “neutral” on its better-performing rival XM.

One reason for the difference in ratings for the two companies is that Sirius has missed a number of key milestones set forth by its management a year ago, whereas XM has consistently delivered on its promises, Nabi explained in a research note.

Joseph Clayton, Sirius’s president and CEO, disagrees, telling analysts and investors in a conference call last week that his company achieved many of its milestones in the quarter.

Other signs of progress cited by Clayton include a doubling of brand awareness since the company began a major advertising campaign in February, two new sales promotions that could drive subscriber gains and “excellent” early results from an arrangement for Hertz to offer the service on its rental cars.

–Paul Dykewicz

(Karim Zia, Deutsche Bank, 212/469-7591; Bob Peck, Bear Stearns, 212/272-6665; Marc Nabi, Merrill Lynch, 212/449-4632; Jim Collins, Sirius, 212/901-6422)