A crucial point may be getting lost in the shuffle in the XM/Sirius (XMSR-SIRI) merger approval process.  Both of these companies NEED the merger in order to survive as they stand today.  We took a look at the current cash burn rates for both companies to see how long they could survive on their own, which could become a big factor as merger proceedings drag on for months and months.  The companies do not expect all of the conditions and integrations to come until later in the year as it stands now, and there has already been the notation that new subscribers will slow until the outcome is clear.  This originally started out merely as a "how long until zero for each" scenario, but upon further review some obvious changes are showing themselves.

Sirius has shown higher growth rates but it also has much higher acquisition costs per subscriber: our forecast is $95 to $105 per subscriber for Sirius compared to $64 per subscriber at XM for 2007.  Total estimated operating expenses for 2007 are roughly equivalent at the two companies, and based on our subscriber estimates the monthly revenue and cash burn rates are as follows:

XMSR: Revenue $83 million/month; Operating Expense $129.8 million/month;
Current Cash Balance (including lease-back proceeds) $506,550,000
Estimated months of operation under current conditions – 10.8 months

SIRI: Revenue $75 million/month; Operating Expense $123 million/month;
Cash Balance (as of 12/31/06) $408,000,000
Estimated months of operation – 8.4 months

XMSR has recently opened a new door that probably gives them the best source of cheap capital available to them by negotiating a sale-leaseback on their most recently-launched XM4 satellite, bringing in over $280 million in proceeds.  Both XM Satellite and Sirius have 4 satellites in operation currently, but the XM4 was the newest and is therefore considerably more valuable than the other 7 in orbit.  But both companies can access cash in this manner if they choose to do so.  How much so we can’t say, but at least a benchmark level has been set that could prove vital in keeping these companies afloat in the face of disastrously-expensive debt financings or even more utterly-dilutive stock offerings.  It may even be arguable that these companies are now in a situation where the capital markets are partially closed to them.

There are some obvious issues here that can make or break any of these figures and circumstances.  S&P recently defended Sirius, sort of.  We openly admit that the companies could also curb certain expenses and renegotiate pacts to slow this cash-burn down; and there are credit facilities that can still be accessed.  While we have said the capital markets may be closed off, betting that there would be NO lenders, no financiers, no satellite equity ventures is probably silly.  Someone somewhere would give either or both of these companies money or access to credit, but they would want to do so after the merger approval decisions are a known event.  It is very likely that these companies could operate well into 2008 without having to go into voodoo financings.  Jim Cramer thinks this one goes through as well.

But the issue still revolves around the merger and this is what each government oversight group needs to consider: Higher prices now or higher prices later?  They can allow a monopoly in a non-critical entertainment and information industry that would sign in blood for 1-year to 3-year price-lock agreements without question OR they can block the merger and allow one or both to operate at levels where each may fail.  If the powers that be are worried about rising prices if this goes through, then they need to look at the fact that the subscription price will HAVE to rise immediately for each of these to survive independently without a lower combined cost structure.

Evaluating a merger of this proportion should be a comparative no-brainer to other DOJ and FCC mergers that have been approved, and the only reason this is an issue is because of a potential changing of the guard in 2008 (technically a change is coming either way, and the oversight committees are already under new leadership).  We aren’t forgetting the old law that prohibits the licenses from being under one company, but the FCC has already indicated this could be changed under the right conditions. If this was a merger of NBC and Clear Channel or something to that extent then it would have obvious objections.  This is nowhere as critical as a merger between AT&T and SBC Communications that was allowed to go through.  Satellite radio is non-critical radio, even if you are addicted to Howard Stern, Martha Stewart, or Oprah.  They both offer some serious packages and are almost without question an addition to their loyal fans and subscribers, but the flow of free information would not be cut off if these 8 satellites suddenly decided to come back into the atmosphere.

Congress, the FCC, and the DOJ need to determine the fate of these soon for the sake of consumers AND for the sake of the companies.  Do they want to "champion competition and the consumer" and force them to remain independent?  Or do they want to pander to business and shareholders?  If they force the companies to remain independent, then subscribers better just go ahead and presume they will face higher subscribers fees starting in 2008.  If Congress, the DOJ and the FCC allow the merger to proceed, then they will be able to assure that consumers get price locks and programming locks until 2010. 

It is very surprising that this is not brought up for discussion, and management should take this to task by saying that if they are independent that the only way they can survive is by price hikes.  It may only pertain to NEW subscribers, but prices would have to rise for both to remain independent.  As it stands right now, both companies could find themselves in a precarious spot toward the end of 2007.  If these are allowed to merge then there will probably be some easy access to capital and the combined cost structures will be much more efficient.

Late in 2006 we also evaluated how a combined company would look, so this is not the first ponderance of this sort.  The way the media and government cover things, you can probably assume it won’t be the last either.

Written by Jon C. Ogg & by Ryan Barnes
March 11, 2007

Jon Ogg can be reached at [email protected]; he does not own securities in the companies he covers.

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