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Reflections and Predictions on Satellite Radio

As we celebrate the holiday season and the close of 2002, the urge to look back over how the fledgling satellite radio technology has fared and where the players in this game are headed begs indulgence.

As we celebrate the holiday season and the close of 2002, the urge to look back over how the fledgling satellite radio technology has fared and where the players in this game are headed begs indulgence.

The XM and Sirius satellite radio services both managed to get themselves up and running during one of the worst economic downturns in 50 years. The high-tech implosion and the 9/11 recession triggered a big bite out of the projected growth and success both companies hoped to have achieved. After burning money for 10 years, they HAD to launch, at a time when not many people were willing to spend extra on entertainment.

In spite of the slow start, the SDARS services are providing something that terrestrial radio could not – namely, a nationwide service that could be received almost anywhere, featuring many new channels of programming and formats not usually found elsewhere, with few or no commercials. Those who frequently travel the open roads, especially in sparsely populated regions of the country, have found XM and Sirius a welcome addition, but at an additional cost.

Humble beginnings

XM has been signing up subscriptions for over a year and counts about 220,000 as of the third quarter, 2002. In Arbitron terms, that total rivals the cume for a 2-share, also-ran commercial station in a major market. Sirius got a much shakier start, mostly due to receiver chip set problems, and has signed up an anemic 30,000. There appears to be a long road of red ink ahead for both, if they even stay on the road at all.

These services carry monthly subscription charges of $10 to $12, plus the cost of the special radio and a second antenna, typically around $300. Both say if 10 percent of the existing population using radio signs up and remains loyal, they will be profitable and successful. Subscription growth is slower than originally projected and now totals only about 1 percent of their goal. Annual contract renewals from the early XM buyers are just now coming in. If at least half of present subscribers don’t convert to renewals, XM and Sirius will have big trouble surviving as they now exist.

A steep climb ahead

The growth rate of new satellite radio users should level off as the percentage of those most likely to adopt nears critical mass. It might even start declining if renewal rates drop off. After those who really want this service buy it, the only sure way XM and Sirius can grow sales to reach profitability is to hope that factory or dealer-installed satellite radios in new cars become attractive enough for car buyers to swallow the buried costs in their car payment. One percent down, 99 to go.

The vast majority of radio users seem happy enough with free and local stations and will most certainly remain so. The satellite boys were banking heavily on getting a big head start on terrestrial services in deploying the advantages of digital. As HD Radio ramps up in 2003, many of those technical advantages will be leveled. Stay tuned for lots of confusion in the showrooms as sales folk tell consumers they can have all the advantages of digital radio without having to pay any monthly fee and still listen to all their favorite local stations.

A ton of expensive infrastructure is needed to make SDARS work well everywhere, especially in large metro areas. Not only are the satellites, the studio complexes and the staffing very pricey, but the huge network of terrestrial repeaters needed to make reception seamless piles up a mountain of costs. I won’t go into the details of their balance sheets, but it doesn’t take a math genius to figure out the cost per listener is simply breathtaking. The subscriber acquisition costs for XM alone are about $120 per person.

Business Economics 101

Both companies are publicly traded, each with several major stockholders holding the trump cards. They’re both trading near their all-time-low share prices. How long will the banks and investors stay patient, waiting for the present business models to justify staying the course?

XM says they have enough cash on hand to keep running for another year. They’ve just cut 80 positions at their palatial Washington operations center. Sirius is not nearly as flush. Both have executed additional refinancing and stock sales on several occasions to prop up their operations and buy more time with Wall Street.

The ritual of launching a new business enterprise with venture capital and public stock offerings has been played out countless times throughout the history of American capitalism. High tech is especially treacherous. After the disappointment of Iridium’s cell phone service, ventures involving a satellite-based subscription model have become a bit suspect. At some point, the business plan must deliver a profit to the investors.

Detroit to the rescue

Both XM and Sirius have major investment backing from the big automobile companies. General Motors is in fact the largest single stockholder of XM at about 30 percent. Clear Channel Communications has around a 12 percent stake and is also a key owner. Ford and Daimler/Chrysler have lined up behind Sirius. The presence of these players gives the satellite services more options if their present models don’t pan out as scripted.

It seems likely that by the end of 2003, Sirius will be urged by its major creditors to do something very compelling or throw in the towel. Before its present program offerings and business model goes away, there will no doubt be major cost-cutting, more commercials and perhaps higher subscription fees in a last-ditch attempt to rescue this very sick puppy dog.

They could be forced into at least Chapter 11 reorganization bankruptcy, if not Chapter 7 liquidation. It would take several years to play out, with a court overseeing who gets what, but don’t look for any deals that might merge XM with Sirius as a quick solution. The FCC rules specifically mandated two separate services for SDARS using the S band channels to ensure a competitive playing field. Economic forces could compel the FCC to change the rules of course, especially if re-auctioning the spectrum would bring in new revenue.

Mel and Lowry watching closely

It’s possible that if Sirius is forced to liquidate, at say 10 or 20 cents on the dollar, a company like Viacom could step up and become a new controlling interest. With Westwood One and the Infinity stable of successful major stations, adding a nationwide direct satellite distribution network might be valuable for future diversification of their radio holdings. Maybe Mel Karmazin has figured out a business model for this technology within Viacom that might work.

If XM eventually runs this same course, Lowry Mays and Clear Channel could become the controlling interest, perhaps in partnership with GM to extend their Premiere Network and other O&O programming resources via the existing infrastructure. The program offerings under such a regime will most certainly include more commercial content.

Growing the receiver base

I have always believed that given the high costs required to launch and maintain two separate satellite radio services, only one would ultimately survive. Different modulation and bit rate compression formats make the job of reaching critical mass for receiver penetration more difficult for the receiver manufacturers.

A common satellite platform that integrates well with HD Radio would jump-start new “multi-mode” digital radio sales much more rapidly. Designs for such radios are already in the works. There is a silver lining for satellite radio here. If it can hang on long enough for such radios to become standard in most new cars, it will have a much better chance of surviving long-term.

Some have suggested that if satellite receiver penetration grows significantly by the time Sirius or XM gets absorbed by an existing major group owner, or even a consortium of owners, the new model may simply run more commercials and dispense with subscription fees. Then satellite radio simply becomes more channels and program choices on the dial with business as usual. Given how expensive running this service already is, I doubt it would happen anytime soon.

Beyond radio on S band

If Sirius does go bankrupt first, what could also happen is that one or more of the major investors will pick up what’s left and forge an entirely new business that makes better use of the resources. If radio listening won’t pay for maintaining satellite communications to the car, it’s likely that Ford and/or Daimler/Chrysler would use them to support their version of GM’s On-Star service and other interactive features that will make driving more convenient, reliable and secure. The 2 GHz S band is a very valuable chunk of spectrum that will likely support many new technologies that will find their way into the motor vehicles of the future. Now is the time to nail down control.

That would leave the job of providing satellite radio service up to XM or its successors without a competitor, assuming the S band rules were changed. Maybe one service could survive with unchallenged higher fees, if the programming content attracted enough people who were still willing to pay extra for it. If not, then the car companies just might wind up owning and controlling all of these channels to serve their own inventions. But I’m betting satellite radio in some form is here to stay. It just needs to find a way to make itself profitable.

So far, satellite radio has had almost no impact on terrestrial radio, in terms of stealing even a tiny portion of listeners or advertisers. National advertising almost evaporated for most markets during the year following 9/11. A few percent of a small number is meaningless. Only time will tell if this changes, of course.

Predictions and Christmas gifts

I’ll crawl out on the wire and predict that a year from now, Sirius will not be doing business using their present model or name. They will morph into something else or be absorbed by their major stockholders or a major media group. XM will still be running but with more commercials and higher fees. Clear Channel will have more control of the content, with most of their syndicated shows available on the bird. We could also have audio feeds of the most successful cable and network TV talk shows on the menu.

Next Christmas we’ll revisit these musings and see if I deserve a lump of coal or something more useful. A satellite radio with a lifetime subscription would be nice.