The resignation Feb. 13 of XM Satellite Radio board member Pierce J. Roberts created a stir on Wall Street and focused attention on what some see as the lavish spending habits of XM and its rival, Sirius Satellite Radio.
News of Mr. Roberts’ departure in protest of the company’s current direction broke just before XM and Sirius released earnings reports showing widening losses due in part to sky-high subscriber acquisition costs. The combined developments predictably caused the stock price of both companies to drop.
Mr. Roberts warned that XM faces “a significant chance of crisis” and that, even if the situation does not deteriorate to that point, the company would end up serving its shareholders poorly absent major and immediate changes. Although one would expect corporate board members to disagree from time to time over strategy, Mr. Roberts’ dramatic exit struck several financial analysts as unusual.
Pierce Roberts is no Chicken Little — he’s a well-respected Wall Street veteran whose resume includes titles such as managing director of AEA Investors and head of the telecommunications investment department at Bear Stearns.
But his warning, while noteworthy, does not mean the sky is falling; XM Satellite Radio is not the original Iridium.
It does not take a visionary to recognize the potential of satellite radio in the United States. There are well over 200 million potential customers , and monthly subscription fees in the $13- to $15-per-month range make the service accessible to just about anybody who can afford gasoline these days. With well over 100 channels each, XM and Sirius can offer a wide enough variety of music, news, talk and sports programming to have appeal across the gamut of consumer tastes. And while traditional broadcast radio is free, it offers almost no variety by comparison and is considered by many — even in large markets — to be of very poor quality, if not downright awful.
The downside, of course, is the high cost of building a satellite radio business. Building and launching high-power satellites, and deploying related infrastructure, is expensive. So too, as it turns out, is signing up marquee talent to develop original programming, and securing the rights to broadcast popular material such as sporting events. Add to that discounts for subscriber equipment and advertising, and it is no wonder that the losses at Sirius and XM are mounting and raising eyebrows on Wall Street.
But the business also is growing at an impressive clip: XM and Sirius have crossed the 6 million and 3 million subscriber marks, respectively. While acknowledging that subscriber acquisition costs were higher than expected during the fourth quarter of 2005, XM executives justified their spending as necessary to counter the debut of celebrity radio personality Howard Stern at Sirius.
Mr. Roberts felt otherwise, but clearly his is the minority opinion on the XM board.
There are no guarantees in business, and only time will tell which side is correct. Financial analysts appear to be hedging their bets, with some advising that the current spending by XM and Sirius is justified given where they are on the growth curve, but at the same time warning that it could spiral out of control as competition for talent and content intensifies.
Optimists will draw comparisons between satellite radio and one of commercial space’s biggest success stories: satellite television. While there are important differences between the two — DirecTV and EchoStar do not have to commit hundreds of millions of dollars to land on-air talent, for example — there are many obvious similarities. It also is relevant to note that during its infancy, satellite television went through similar periods of Wall Street angst. And satellite television executives have spent heavily on some programming, particularly exclusive arrangements with sports leagues.
Pessimists might be tempted to cite the examples of Iridium and Globalstar, the hugely expensive mobile satellite phone ventures whose business cases began to unravel almost as soon as they began operations. But XM and Sirius are targeting a completely different — not to mention far bigger — market than the satellite phone ventures, making such comparisons less compelling. They also have millions of subscribers already, something Iridium and Globalstar never achieved.
The experience with mobile satellite telephony is not irrelevant however, as it demonstrated how quickly the march of technology can undermine a business proposition. To a large extent, Iridium and Globalstar were undone by the expansion of cellular telephone networks and capabilities that occurred while the satellite systems were being designed and deployed.
Technology in satellite radio’s target market is not static. There is a general trend toward convergence between cellular networks, the Internet, terrestrial digital radio and other digital media technologies. This conceivably might produce a lower-cost competitor to satellite radio.
If that happens, Sirius and XM will have to make adjustments and may well have to curtail their spending. Then, Mr. Roberts will be hailed for his prescience.
Even if he turns out to be wrong, Mr. Roberts probably has done the nascent satellite radio industry a service by getting people to at least stop and think seriously about the hazards and challenges that lie ahead.
