William Kidd, and analyst for Wedbush issued reports for both Sirius and XM today. Kidd has placed a buy rating on Sirius with a $4 price target and a sell rating on XM with a price target of $12. Kidd’s analysis considers the companies without a merger, and he believes merger odds are less than 50%.
REPORT EXCERPTS ON SIRIUS
Sirius Satellite Radio (SIRI – BUY): Q3 Preview: OEM Adds Should More Than Offset Continued Retail Softness
- Although soft retail trends continue to make noise, Q3 results should reflect strong yoy growth, driven by OEM sales. We increased our Q3 gross additions estimate to 938k from 898k, representing a 28% yoy increase. The strong subscriber demand continues to be fueled by improved penetration in new cars. Even with the added replacement churn burden coming from roughly 2.5 million more subs than last year, we still expect net adds to be essentially flat yoy at 445k in 3Q07. We see both the gross and net additions trends as positive adoption trends. Note: we expect Sirius to release its Q3 results in early November, though it has yet to make a formal announcement.
- Minor subscriber forecast adjustments as a result of our perception of better OEM, and weaker retail growth. We think our prior OEM gross additions estimate was too conservative at 463k; our revised estimate stands at 595k. We considered our OEM estimates low in light of last quarter’s strength and OEM 2008 model-year production commitments. However, based largely on NPD data, we revised our retail gross additions down to 341k, well below our prior estimate of 434k. NPD data suggested that July and August sales were down roughly 30% and 22% yoy respectively. There is some potential for actual retails to come in short of our forecast, as we assumed Sirius will continue to show better yoy changes than NPD data implies—consistent with recent quarterly trends. These changes culminated in a slightly higher net additions estimate, now 445k up from 437k. Our revised net additions estimate remains above the 420K net adds consensus. Our EPS was not impacted by these changes, leaving our Q3 EPS estimate of ($0.09) in line with consensus.
- We noticed that promotions continue to be modest, which we take as a sign that Sirius is not too alarmed by soft retail trends. Sirius’ current promotions include the “Hear it for Half” deal where new and existing subscribers are able to add a second receiver at discounted rate in conjunction with a six-month subscription. The best equipment offer being 50% off the Sportster 4, which lowers the cost to $74.99. Existing subscribers are also able to add the second subscription for $6.99/mo. Our Q3 adjusted SAC per sub decreased to $145 from $147 due to our higher gross adds estimate. The lack of seasonal holiday promotions this quarter is likely another cause as to why Sirius held back on getting aggressive with its promotions mix. We suspect cannibalization from OEM success, the lack of new receiver equipment in consumer electronics channels as well as posturing with merger regulators are also possible contributing factors to the retail malaise.
- Guidance will likely be left unchanged. We believe Sirius is on its way to reaching its 2007 subscriber guidance of >8 million subscribers, up from 6.02 million at year-end 2006. We continue to be at 8.2 million year-end subscribers and will looking at Q3 OEM additions as a possible reason to raise estimates further. In terms of other key guidance figures: we are at $942 million for revenue, a bit more conservative than the company’s $1 billion guidance, and we are at $101 in SAC (company’s SAC guidance is $100).
- Reiterate BUY and $4 price target. Our $4 price target is based on a DCF analysis and does not incorporate any merger premium/benefit, consistent with our view that the transaction has less than a 50% likelihood of approval and thus, will likely be denied within 12 months
XM Report Excerpts After The Jump
REPORT EXCERPTS ON XM
XM Satellite Radio (XMSR) Given Recent Appreciation and Still Difficult Merger Prospects, Downgrading XM to SELL in Favor of Sirius
- We are downgrading XMSR to SELL from HOLD due to XM’s recent share price appreciation relative to Sirius and our belief that the proposed merger has a low likelihood for success. We believe it is time to take profits on XM and switch to Sirius, which we think has better fundamentals and less downside risk if the merger is denied. Since the merger proposal on February 19th, XM’s shares have gained only 1-2%, though still ahead of the 6-7% decline in Sirius shares. However, in the past two months, as confidence in the merger has risen, XMSR shares have climbed almost 30% vs. nearly 20% for SIRI. Given Sirius would pay a small premium if the merger is consummated, XM’s better relative price performance is somewhat understandable. However, if the merger is not approved, we would be surprised if XM shares did not dramatically underperform Sirius for the following reasons: (1) we would expect XMSR shares to give back their recent relative outperformance without Sirius’ offer to sustain their price level; (2) fundamentals have not been stellar at XM. Consequently, we believe XM’s shares would have likely underperformed Sirius’ because of XM’s higher cash burn and inability to make up lost competitive footing; and (3) we think it is only a matter of time before the market becomes concerned about the potential for further dilution at XM without a merger. Thus, considering our position that the merger’s likelihood of approval remains low, we believe selling XMSR shares in favor of SIRI shares is the most prudent holding strategy at this point. Our merger thoughts are summarized later herein.
- We are also lowering our price target to $12 from $14. Our DCF valuation was mostly impacted by an increase to our OEM revenue share expense estimate, which looked light in percentage terms as well as against our expectations of a more aggressive OEM ramp up. We have adjusted our revenue share estimate to 26% of OEM-related subscription revenue, up from 22%. This change is partially offset by an increase to our OEM subscriber estimates. In 2007 and 2008, we are projecting OEM gross adds to increase 23% and 31% yoy respectively vs. our previous estimates of 16% and 16%. Bear in mind, although it’s a significant positive that the company is growing its OEM subscriber base, the large OEM revenue share makes such subscribers less valuable than its retail ones. Lastly, we have made a minor change to our advertising and marketing estimate, as our previous estimate was too conservative.
- If we are wrong on the merger and it is approved, XM should outperform Sirius by a small margin. Given the 4.6 to 1.0 share exchange ratio, XMSR shares now reflect 90% of the implied offer. This difference should allow XMSR shares to outperform SIRI shares by a small margin if the deal is approved, although by more than 10%. That said, we would expect Sirius shares to still perform quite well in such a scenario, given our belief that the market has not priced in what is likely to be substantial merger synergies in the case that the merger is approved by regulators. In spite of the potential for substantial synergies if the merger is approved, we believe neither company’s shares are up materially since the February merger announcement because of the collective skepticism regarding the transaction’s approval. Consequently, we are not expecting Sirius holders to be very disappointed in the case we’re wrong on the merger, which is partly why we consider a switch to SIRI from XMSR the right holding strategy.
- In terms of Q3 expectations, we expect strong OEM results to cover retail softness. Although OEM sales have less visibility than retail sales, we are incrementally more positive on Q3’s OEM results based on the OEM rollouts of Hyundai, Toyota, and Nissan in 2H07. We are increasing our net adds estimate to 356k from 302k, and we believe the consensus net adds estimate to be around 320k. Our net adds estimate change is largely attributable to our OEM gross adds estimate which we revised to 746k from 663k. Although we are slightly bringing down our retail gross adds estimate to 254k from 279k, we expect the company to still post yoy growth in overall gross additions. In terms of the bottom line, our EPS estimate is ($0.45) and we do not consider our two cents variance from the consensus estimate of ($0.43) to be meaningful.
- We are not expecting any material 2007 guidance changes when XM reports. XM guided to 9.0-9.2 million subscribers, up from 7.63 at year-end 2006. We are maintaining our estimate of 9.1 million year-end subscribers for 2007. In terms of other key metrics, we are at $996 million for full-year revenue (in line with the company’s $1 billion guidance), and we are also at $117 in CPGA (slightly higher than the company’s updated CPGA guidance of $111-114) for the year.
Tyler Savery Position – Long Sirius, Long XM