PAGE ONE
Low Fidelity
Until Recently Full of Promise,
Satellite Radio Runs Into Static
XM, Sirius Post Big Losses
As Listeners Prove Fickle;
Investors Take a Pass, Too
One-Year Free Trials End Soon
By SARAH MCBRIDE
August 15, 2006
Last year, Nicky Baumohl bought a new Audi A4 featuring an XM satellite radio with a free, trial subscription. But Ms. Baumohl's salesman never activated the service and an XM customer-service representative mistakenly told her she wasn't eligible. Already irked at the idea of paying for radio, the 35-year-old event planner instead listens to CDs, broadcast radio and her iPod digital music player as she tools around San Francisco.
The customer who got away -- especially after so many inducements -- is one reason why satellite radio is encountering unexpected turbulence after just a couple of years of being a hot consumer item.
The problems are myriad, underscoring the fast-changing and fickle nature of the consumer-electronics business. In addition to not activating pre-installed car radios, or those given as gifts, customers who actually sign up don't always stick with the service. Many people are simply having iPod adapters installed in their cars and skipping satellite altogether, a concept that was barely on the horizon when the industry was young. In addition, bidding wars have driven up the cost of on-air talent far beyond what was initially expected.
When iconic morning host Howard Stern moved from regular radio to satellite earlier this year, it was supposed to be a coming of age. Instead, the industry's two rivals, XM Satellite Radio Holdings Inc. and Sirius Satellite Radio Inc., are still reporting heavy losses, despite a few years ago telling investors they would need four million customers each to break even. XM crossed that mark more than a year ago; Sirius hit it earlier this year. Last year, XM lost $667 million, and Sirius lost $863 million. And Sirius is facing a potential exodus of subscribers as a clutch of promotional one-year trials soon comes to an end.
As a result, the rivals are having a hard time persuading investors they are no longer scrappy start-ups, but real businesses. Sirius shares have lost 44% of their value this year; XM's have given up 60%.
In February, Pierce "Jack" Roberts, a longtime XM board member, handed in his letter of resignation. "Given current course and speed, there is, in my view, a significant chance of crisis on the horizon," he wrote. In a phone call, Mr. Roberts declined to elaborate further.
QUESTION OF THE DAY
• Vote: What would get you to subscribe to a satellite-radio service?
XM and Sirius are taking markedly different approaches to overcoming their problems. XM is aggressively paring costs. It is cutting back on advertising, restructuring its debt, and reining in its rebate program. The company has twice lowered its subscriber targets for the year, although it still leads Sirius by about two million customers.
Sirius, while actively cutting costs, is working hard to stoke subscriber growth. It introduced a $100 summer rebate on one model and also is offering longer free-trial periods through some car partners. Sirius chief executive Mel Karmazin is quick to call attention to subscriber counts, where Sirius has sharply narrowed XM's lead. On a recent conference call he boasted that in terms of new subscribers, since last September, "we have been the market-share leader every single month."
Hugh Panero, the chief executive of XM, said in a written statement that the company is, "well positioned to navigate through each of our near-term challenges with the same determination and focus that have enabled us to attract more than seven million subscribers with millions more to come." Sirius wouldn't make Mr. Karmazin available to comment for this article. In an interview this spring, he said: "I don't think there's a person out there in the financial community that doesn't believe that both companies will be successful."
SATELLITE SCRAMBLE
See more on the race between Sirius and XM.When both companies were getting going, they seemed to be mastering their biggest challenges: lining up financing, firing satellites into the sky and luring talent. In addition, from the outset, both knew that getting satellite radios into cars would be a key plank of their strategies, and each worked hard to set up exclusive deals with auto makers. XM landed the biggest U.S. auto maker, General Motors Corp., in 1999. Sirius matched that by reeling in Ford Motor Co. and then DaimlerChrysler AG the following year.
XM won an early advantage when GM quickly started hardwiring XM radios into more than two dozen 2003 models; other car makers dragged their feet. By 2006, XM was in about 35% of the four million or so U.S. passenger cars sold by GM. The car maker ploughed $50 million into XM's convertible debt and the radio company agreed to pay GM $400 million through 2009 to be its exclusive partner, giving both sides a big incentive to cooperate.
But XM soon learned that installing radios in the dash isn't enough. GM dealers tried to sell XM subscriptions to car buyers, but few bit. Starting with 2003 models, GM launched a free three-month trial. About 55% of those customers sign up for a paid subscription, at the regular price of $12.95 a month, when the trial runs out. The free-trial model would later be widely adopted by other car makers.
To battle drivers' apathy, the radio companies started thrusting free trials on consumers. Up until late last year, people who bought DaimlerChrysler cars with Sirius had to call an 800-number to get it activated, says Mike Kane, director of product strategy at Chrysler. When large numbers of customers failed to dial in, the car maker had the radios turned on at the factory, allowing customers to start listening as early as their test drives. GM and other car makers use the same technique.
Mr. Kane says Chrysler won't know until the end of the year if the switch will boost the number of converts from free to paid subscriptions. That is because Chrysler models come with one full year of Sirius, paid for in advance by the car makers at a discounted rate. Some Ford models recently bumped up the trial period to three years from six months.
A wave of the one-year trials will begin ending soon, providing some indication of how many real subscribers will emerge from the car programs. So far, well over half of Sirius's 1.4 million car-based subscribers don't pay directly for their service, according to James Dix, an analyst at Deutsche Bank who has a buy on both companies. Sirius has 4.7 million subscribers in total.
Many analysts say that "churn," the percentage of subscribers who don't renew, could rise significantly at Sirius in coming months as the trials begin to expire. Until now, churn at Sirius has held steady around 1.8% monthly for the past couple of quarters. At XM, which measures that figure differently, it's hovered around the same level, but it's likely to rise there, too. Analysts expect churn to increase at both companies as their customer bases widen beyond the enthusiastic early adopters, who are more likely to cling to their subscriptions year after year.
As tricky as the pre-installed auto market has been, selling radios through retail outlets has been equally nettlesome. During the last holiday selling season, each company added record numbers of subscribers, but some of the growth was costly. Consumers could walk into big superstores and pick up satellite radios with price tags between $30 and $50 after rebates -- far lower than the true cost of the radio. Sirius and XM soaked up the difference, contributing to giant losses in their 2005 fourth quarters: $311.4 million at Sirius and $268.3 million at XM.
"Think of how many radios might have been given as Christmas gifts that were never turned on," says Joe Damato, director of aftermarket consumer electronics at auto-parts maker Delphi Corp., which works with both companies. Indeed, analysts estimate that about 10% of store-bought radios weren't activated, creating two big costs on each sale for the satellite companies: subsidizing the radio and losing a subscription. Prices are back up to a minimum of around $40, improving the odds that the buyer is committed enough to buy a subscription.
Sirius offers rebates of up to $100 to many retail buyers of new radios. XM has toned down its program, reducing its rebates to $20 to $30. Mr. Parsons, XM's chairman, says his company wants to continue cutting the cost of the manufacturing and components to reduce prices, rather than merely offer rebates.
Still, for Sirius, the tactic is at least helping move more radios. In June, it won 61% of all retail sales, on top of the 54% it garnered April and May, according to NPD Group Inc., a market-research firm.
Increasing costs still further, the companies also pay incentive fees to retailers, known as spiffs, each time somebody buys a radio in the store and activates it. The fee, a common feature of the retailing business, is typically between $10 and $20.
On the content side of the business, satellite companies are beginning to feel the cost of recruiting talent. When Sirius found itself far behind XM in subscribers at the end of 2003, the company hired Hollywood executive Scott Greenstein to help glitz things up. In quick succession two years ago, he delivered deals with rapper Eminem, the National Football League, and most importantly, Howard Stern.
The strategy helped Sirius narrow XM's lead significantly, but at a high price. The NFL cost $220 million for seven years and Mr. Stern cost $500 million over five years. The programming coups set off a bidding war with XM that drove up everyone's expenses. Scrambling for a deal to regain some momentum, XM ended up paying $650 million for 11 years of Major League Baseball.
After the dealmaking frenzy, the companies started marketing their big investments to subscribers. Sirius got a blitzkrieg of help from Mr. Stern, especially because of the unusually long transition in which Mr. Stern remained in his old job at CBS Radio, lambasting his bosses and pushing Sirius for more than a year before he made the switch. The flood of free publicity prompted XM to spend heavily, and in 2005, its advertising and marketing costs almost doubled from the prior year, to $163.3 million. A crucial test for Sirius will come early next year, when many of the more than one million subscribers who bought the service because of Mr. Stern will have to renew.
On the legal front, the satellite-radio industry is facing heat from music labels, which are up in arms about a radio that can store songs, contending it infringes their copyright. In March, Sirius agreed to pay a fixed fee to labels every time it sold such a radio, called an S50. XM couldn't reach an agreement for its players, and now has a Recording Industry Association of America lawsuit on its hands. Besides turning off investors, the legal issues also are tying up management time.
The Federal Communications Commission also is looking into satellite-radio receivers, specifically those that play through a car stereo system when a listener tunes into a certain station on the FM dial. In many cases, the signal that feeds into the FM radio is too strong and is picked up by nearby cars. Both companies are working on fixes, which could become expensive, especially if they require product recalls. Last week, XM said regulators had requested information on several additional models.
Many analysts still believe satellite radio will eventually resemble Time Warner Inc.'s HBO: a profitable, albeit modest market, that is also a forum for experimenting with new types of content.
Steve Blum, president of Monterey, Calif., media consultancy Tellus Venture Associates, predicted five years ago that the two satellite-radio companies would have a total of 16 million subscribers today. They actually have 11 million, and Mr. Blum's estimates were modest compared to others, such as investment bank Bear Stearns Cos., which in 2000 said there would be 36 million subscribers by 2007.
Mr. Blum has since tweaked his forecasts after factoring in the role of downloaded music and lack of subscriber loyalty. "It's a much more complicated market than we realized," he says.
Low Fidelity
Until Recently Full of Promise,
Satellite Radio Runs Into Static
XM, Sirius Post Big Losses
As Listeners Prove Fickle;
Investors Take a Pass, Too
One-Year Free Trials End Soon
By SARAH MCBRIDE
August 15, 2006
Last year, Nicky Baumohl bought a new Audi A4 featuring an XM satellite radio with a free, trial subscription. But Ms. Baumohl's salesman never activated the service and an XM customer-service representative mistakenly told her she wasn't eligible. Already irked at the idea of paying for radio, the 35-year-old event planner instead listens to CDs, broadcast radio and her iPod digital music player as she tools around San Francisco.
The customer who got away -- especially after so many inducements -- is one reason why satellite radio is encountering unexpected turbulence after just a couple of years of being a hot consumer item.
The problems are myriad, underscoring the fast-changing and fickle nature of the consumer-electronics business. In addition to not activating pre-installed car radios, or those given as gifts, customers who actually sign up don't always stick with the service. Many people are simply having iPod adapters installed in their cars and skipping satellite altogether, a concept that was barely on the horizon when the industry was young. In addition, bidding wars have driven up the cost of on-air talent far beyond what was initially expected.
When iconic morning host Howard Stern moved from regular radio to satellite earlier this year, it was supposed to be a coming of age. Instead, the industry's two rivals, XM Satellite Radio Holdings Inc. and Sirius Satellite Radio Inc., are still reporting heavy losses, despite a few years ago telling investors they would need four million customers each to break even. XM crossed that mark more than a year ago; Sirius hit it earlier this year. Last year, XM lost $667 million, and Sirius lost $863 million. And Sirius is facing a potential exodus of subscribers as a clutch of promotional one-year trials soon comes to an end.
As a result, the rivals are having a hard time persuading investors they are no longer scrappy start-ups, but real businesses. Sirius shares have lost 44% of their value this year; XM's have given up 60%.
In February, Pierce "Jack" Roberts, a longtime XM board member, handed in his letter of resignation. "Given current course and speed, there is, in my view, a significant chance of crisis on the horizon," he wrote. In a phone call, Mr. Roberts declined to elaborate further.
QUESTION OF THE DAY
• Vote: What would get you to subscribe to a satellite-radio service?
XM and Sirius are taking markedly different approaches to overcoming their problems. XM is aggressively paring costs. It is cutting back on advertising, restructuring its debt, and reining in its rebate program. The company has twice lowered its subscriber targets for the year, although it still leads Sirius by about two million customers.
Sirius, while actively cutting costs, is working hard to stoke subscriber growth. It introduced a $100 summer rebate on one model and also is offering longer free-trial periods through some car partners. Sirius chief executive Mel Karmazin is quick to call attention to subscriber counts, where Sirius has sharply narrowed XM's lead. On a recent conference call he boasted that in terms of new subscribers, since last September, "we have been the market-share leader every single month."
Hugh Panero, the chief executive of XM, said in a written statement that the company is, "well positioned to navigate through each of our near-term challenges with the same determination and focus that have enabled us to attract more than seven million subscribers with millions more to come." Sirius wouldn't make Mr. Karmazin available to comment for this article. In an interview this spring, he said: "I don't think there's a person out there in the financial community that doesn't believe that both companies will be successful."
SATELLITE SCRAMBLE
See more on the race between Sirius and XM.When both companies were getting going, they seemed to be mastering their biggest challenges: lining up financing, firing satellites into the sky and luring talent. In addition, from the outset, both knew that getting satellite radios into cars would be a key plank of their strategies, and each worked hard to set up exclusive deals with auto makers. XM landed the biggest U.S. auto maker, General Motors Corp., in 1999. Sirius matched that by reeling in Ford Motor Co. and then DaimlerChrysler AG the following year.
XM won an early advantage when GM quickly started hardwiring XM radios into more than two dozen 2003 models; other car makers dragged their feet. By 2006, XM was in about 35% of the four million or so U.S. passenger cars sold by GM. The car maker ploughed $50 million into XM's convertible debt and the radio company agreed to pay GM $400 million through 2009 to be its exclusive partner, giving both sides a big incentive to cooperate.
But XM soon learned that installing radios in the dash isn't enough. GM dealers tried to sell XM subscriptions to car buyers, but few bit. Starting with 2003 models, GM launched a free three-month trial. About 55% of those customers sign up for a paid subscription, at the regular price of $12.95 a month, when the trial runs out. The free-trial model would later be widely adopted by other car makers.
To battle drivers' apathy, the radio companies started thrusting free trials on consumers. Up until late last year, people who bought DaimlerChrysler cars with Sirius had to call an 800-number to get it activated, says Mike Kane, director of product strategy at Chrysler. When large numbers of customers failed to dial in, the car maker had the radios turned on at the factory, allowing customers to start listening as early as their test drives. GM and other car makers use the same technique.
Mr. Kane says Chrysler won't know until the end of the year if the switch will boost the number of converts from free to paid subscriptions. That is because Chrysler models come with one full year of Sirius, paid for in advance by the car makers at a discounted rate. Some Ford models recently bumped up the trial period to three years from six months.
A wave of the one-year trials will begin ending soon, providing some indication of how many real subscribers will emerge from the car programs. So far, well over half of Sirius's 1.4 million car-based subscribers don't pay directly for their service, according to James Dix, an analyst at Deutsche Bank who has a buy on both companies. Sirius has 4.7 million subscribers in total.
Many analysts say that "churn," the percentage of subscribers who don't renew, could rise significantly at Sirius in coming months as the trials begin to expire. Until now, churn at Sirius has held steady around 1.8% monthly for the past couple of quarters. At XM, which measures that figure differently, it's hovered around the same level, but it's likely to rise there, too. Analysts expect churn to increase at both companies as their customer bases widen beyond the enthusiastic early adopters, who are more likely to cling to their subscriptions year after year.
As tricky as the pre-installed auto market has been, selling radios through retail outlets has been equally nettlesome. During the last holiday selling season, each company added record numbers of subscribers, but some of the growth was costly. Consumers could walk into big superstores and pick up satellite radios with price tags between $30 and $50 after rebates -- far lower than the true cost of the radio. Sirius and XM soaked up the difference, contributing to giant losses in their 2005 fourth quarters: $311.4 million at Sirius and $268.3 million at XM.
"Think of how many radios might have been given as Christmas gifts that were never turned on," says Joe Damato, director of aftermarket consumer electronics at auto-parts maker Delphi Corp., which works with both companies. Indeed, analysts estimate that about 10% of store-bought radios weren't activated, creating two big costs on each sale for the satellite companies: subsidizing the radio and losing a subscription. Prices are back up to a minimum of around $40, improving the odds that the buyer is committed enough to buy a subscription.
Sirius offers rebates of up to $100 to many retail buyers of new radios. XM has toned down its program, reducing its rebates to $20 to $30. Mr. Parsons, XM's chairman, says his company wants to continue cutting the cost of the manufacturing and components to reduce prices, rather than merely offer rebates.
Still, for Sirius, the tactic is at least helping move more radios. In June, it won 61% of all retail sales, on top of the 54% it garnered April and May, according to NPD Group Inc., a market-research firm.
Increasing costs still further, the companies also pay incentive fees to retailers, known as spiffs, each time somebody buys a radio in the store and activates it. The fee, a common feature of the retailing business, is typically between $10 and $20.
On the content side of the business, satellite companies are beginning to feel the cost of recruiting talent. When Sirius found itself far behind XM in subscribers at the end of 2003, the company hired Hollywood executive Scott Greenstein to help glitz things up. In quick succession two years ago, he delivered deals with rapper Eminem, the National Football League, and most importantly, Howard Stern.
The strategy helped Sirius narrow XM's lead significantly, but at a high price. The NFL cost $220 million for seven years and Mr. Stern cost $500 million over five years. The programming coups set off a bidding war with XM that drove up everyone's expenses. Scrambling for a deal to regain some momentum, XM ended up paying $650 million for 11 years of Major League Baseball.
After the dealmaking frenzy, the companies started marketing their big investments to subscribers. Sirius got a blitzkrieg of help from Mr. Stern, especially because of the unusually long transition in which Mr. Stern remained in his old job at CBS Radio, lambasting his bosses and pushing Sirius for more than a year before he made the switch. The flood of free publicity prompted XM to spend heavily, and in 2005, its advertising and marketing costs almost doubled from the prior year, to $163.3 million. A crucial test for Sirius will come early next year, when many of the more than one million subscribers who bought the service because of Mr. Stern will have to renew.
On the legal front, the satellite-radio industry is facing heat from music labels, which are up in arms about a radio that can store songs, contending it infringes their copyright. In March, Sirius agreed to pay a fixed fee to labels every time it sold such a radio, called an S50. XM couldn't reach an agreement for its players, and now has a Recording Industry Association of America lawsuit on its hands. Besides turning off investors, the legal issues also are tying up management time.
The Federal Communications Commission also is looking into satellite-radio receivers, specifically those that play through a car stereo system when a listener tunes into a certain station on the FM dial. In many cases, the signal that feeds into the FM radio is too strong and is picked up by nearby cars. Both companies are working on fixes, which could become expensive, especially if they require product recalls. Last week, XM said regulators had requested information on several additional models.
Many analysts still believe satellite radio will eventually resemble Time Warner Inc.'s HBO: a profitable, albeit modest market, that is also a forum for experimenting with new types of content.
Steve Blum, president of Monterey, Calif., media consultancy Tellus Venture Associates, predicted five years ago that the two satellite-radio companies would have a total of 16 million subscribers today. They actually have 11 million, and Mr. Blum's estimates were modest compared to others, such as investment bank Bear Stearns Cos., which in 2000 said there would be 36 million subscribers by 2007.
Mr. Blum has since tweaked his forecasts after factoring in the role of downloaded music and lack of subscriber loyalty. "It's a much more complicated market than we realized," he says.
