Sirius XM Satellite Radio (NASDAQ:SIRI) is in the subscription business, and because of this metrics surrounding subscribers will always be important to investors in the equity. The company has counted subscribers the same way for years, yet still with each passing quarter there is always confusion surrounding the subject. In the past two days I have received enough email on the subject that an article dedicated to the subject is warranted. For those that understand this will be a review. For those that are new to Sirius XM, this should help you better understand the subscriber picture.
Exactly what is a subscriber? In simple terms a subscriber is an activated radio that Sirius XM has received a subscription payment for. Some of these payments come from the consumer, while others come from auto manufacturers. Additionally subscribers fall into a few categories:
Self Paying – The consumer pays the subscription (The company gives this metric). These can be either retail or OEM subscribers
Paid Promotional – An auto manufacturer pays the subscription (The company gives this metric)
Rental Subscriber – Car rental companies that offer Sirius XM for a fee (The company gives this metric)
Retail Subscriber – A self paying subscriber derived from the retail channel (plug-n-play radios)
OEM Subscriber – A self paying subscriber derived from the OEM channel
Unpaid Promotional Subscription – Notice that I use the term subscription instead of subscriber. These are promotional subscriptions that come with a new car but the company has not received payment. They are not counted in the subscriber metrics.
Taking things a step further Sirius XM treats the counting differently depending on what auto manufacturer produces a satellite radio equipped car. SiriusBuzz readers are well aware that I categorize these as “LEADING”, “POINT-OF-SALE”, and “TRAILING”. This is where the vast majority of confusion seems comes into play. Investors can get a better understanding by looking at SiriusBuzz’s unique method of reporting car sales each month.
The “Leading” category are auto manufacturers that pay for a satellite radio subscription when they manufacture a car. At that point Sirius XM counts the subscription in their totals and books the money into deferred revenue (a liability on the balance sheet). That satellite radio equipped car may not reach a consumer for two or three months. The impacts of such a counting structure are both positive and negative. On the positive side they are getting to count a subscriber “early”, and that subscription will last longer than would otherwise be the case. A second positive is that the company recoups some of their invested money into that radio faster. This is good for cash flow. On the negative side, while that subscriber is in the parking lot it is not generating positive revenue and that is a drag on Average Revenue Per User (ARPU). ARPU is an important metric because it is a gauge of what kind of money the company can derive from a typical subscription. The higher the ARPU number the better, thus having that drag on this metric is a negative. Another negative is that the liability of deferred revenue goes higher. Also booked in deferred revenue are prepayments from self paying subscribers. Think of the “Leading” category as a bucket where subscribers are counted early. If at the end of the trial the consumer keeps the service they are shifted to the self-paying OEM category. If they do not keep the service they are simply a deactivation. With these manufactures understanding production numbers is important.
The “Point-of-Sale” category is perhaps the classical “pure” method of counting subscribers. When a consumer buys a satellite radio equipped car, they get a promotional subscription paid for by the car manufacturer. They are counted as promotional subscribers at that point. If at the end of the promotional trial they elect to keep the service they shift into the self-paying OEM category. If they don’t keep the service they are simply a deactivation. With this category understanding sales numbers is important.
The “Trailing” category seems to be where a ton of confusion is. Trailing subscriptions are “subscriptions” that are offered by Sirius XM from which they receive no payment. These are NEVER counted as subscribers, and NEVER should be. The SEC is very strict about the fact that the company needs to receive a payment in order to count a subscription. What these could be defined as are “POTENTIAL SUBSCRIBERS”. Sirius XM allows these people to experience the service for three months. At the end of the promotion if the consumer elects to keep the service they are then, and only then, counted in the subscriber number as a self-paying OEM subscriber. If they do not keep the service they ARE NOT counted as a deactvation (This is because they were never counted as a subscriber to begin with). With this category understanding sales from three or four months ago is important.
In Sirius XM’s Q1 conference call David Frear spoke about 1 million additional “UNPAID” Promotional subscriptions in the pipeline. This news seemed to generate excitement, but the reality is that there has ALWAYS been this pipeline. What Frear was trying to point out was that the auto recovery is real, and is happening, and that there is good reason that the company was considering raising their subscriber guidance. The problem is that some people heard 1 million and began to jump for joy. What you need to remember is:
A) These are not subscriptions, but rather potential subscriptions.
B) Likely about 60% of these potential subscriptions will not keep the service after the trial. The take rate with these companies has been less than with the auto companies that are more established with Sirius XM.
C) That pipe-line of 1 million represents 4 to 5 months of production and sales.
D) That pipeline will stay pretty consistent each quarter as long as sales and production remain steady. In simple terms, if 1 million cars in this category are sold in a quarter, around 600,000 to 650,000 potential subscriptions will fall into the pipeline during the quarter. If everything stays consistent, the pipe-line gain about 200,000 per month and loses 200,000 per month. The point being that the only thing that changes this is a ramp-up or ramp-down in production or sales from that category. If car sales shift to 1,200,000 the pipeline will fill a bit more. If car sales shift down to 900,000 the pipeline will decrease a bit.
E) That 1 million number is also not considering churn. While no cars from all three categories of promotions impact the churn number, the NET number is derived from Gross additions less deactivations. Counting 1 million cars now is simply not warranted, not responsible, and not recommended. Understanding what is in the pipeline is good, but assigning those to the subscriber number now is a fools chase.
I think for the most part Frear was trying to instill confidence in the outlook for the company in 2011, and ease fears about the impacts from the disaster in Japan. The statement by Frear had an undesired impact of investors seeing subscriber numbers that simply do not exist. The danger here is that people now have millions on their mind, AGAIN, when the reality is that in Q2 the company will likely report about 400,000 NET additions, in Q3 they will report another 400,000, and in Q4 perhaps 550,000 if the 13 million auto SAAR keeps track.
Here at SiriusBuzz we break these things down for you in a manner which you simply do not find. Our research is sound and we are seasoned at looking at the data in a realistic way. Don’t get caught in a trap of over-optimism. The numbers are the numbers. There is no need to make the “Trailing” pipeline seem bigger than it really is.
Position – Long Sirius XM Radio