Sirius XM Is Cruising As U.S. Vehicle Sales Boom

The U.S. customers bought roughly 1.4 million cars and light trucks in June, bringing the half yearly new vehicle sales to about 7.8 million. ^[1] This implies a growth of roughly 7.7% over the first half of 2012 which suggests that the U.S. automotive industry could see another record year as sales continue to climb since the recession of 2008-2009.

We believe that Sirius XM (NASDAQ:SIRI) will continue to benefit from this trend and may yet again beat its own subscriber guidance for 2013. The company, which added over 2 million net subscribers last year, has grown its overall subscriber base from 19 million in 2008 to 23.9 million in 2012. This growth was primarily driven by improved auto sales and the company’s push into the used-car market and an increase in its number of partnerships with automakers and dealers.

We expect the growth to remain robust due to growing strength in the U.S. automotive market, Sirius XM’s sustained conversion rate, its expansion in the used-vehicle market and high quality radio programming. We expect the total subscriber base to grow past 35 million by the end of our forecast period.

See our complete analysis for Sirius XM

Long-Term Deals With Automakers And Economic Recovery

Every year Sirius XM pays a large sum to its OEM (original equipment manufacturers) partners to keep its radio equipment flowing into the new car market at around 60% penetration rate. Of these 60% who buy a car equipped with satellite radio, just under half (45-46%) tend to convert to self-pay subscribers after the promotion trial runs out.

That’s a healthy rate and therefore Sirius XM will continue to benefit from its relationships with the car makers. For instance, the company has a deal with General Motors (NYSE:GM) which is valid till September 2020. It has also entered into long-term contracts with other car makers such as Ford, Toyota, Kia, Bentley, BMW, Volkswagen, Nissan, Hyundai, and Mitsubishi. Several trucks, boats and recreational vehicles also include Sirius XM radios as standard installation.

Car sales in the U.S. are picking up with a gradual improvement in the economy. This automotive market growth is being further helped by higher availability of financing and lease deals. Overall auto sales in the U.S. stood at around 14.5 million in 2012 and seem to be on track to cross 15.5 million in 2013. Vehicle sales for Q1 2013 reached about 3.7 million, implying a growth of roughly 7% over the first quarter of 2012. However this growth accelerated slightly in the second quarter with June sales increasing by more than 9% over the same period last year. ^[1]

Unique Content & Leveraging Internet

Sirius XM’s business model is based on subscription fees, and therefore the company is able to afford unique and exclusive content that separates it from other radio services. For instance, Sirius XM’s contract with Howard Stern which was due to expire in 2010, was renewed. The previous five-year contract with Stern was worth $500 million. The company also inked an exclusive deal to provide Stern’s show on its mobile app. Stern is a very popular figure and his show attracts over 12 million listeners a week.

Sirius XM has also launched its product Lynx to leverage the growing Internet usage and boost its retail subscriber base. Listeners can use this portable device to connect to the Internet and listen to on-demand music. Therefore, the company is becoming a hybrid radio service provider, leveraging both satellite and Internet media.

Estimating Future Growth

For the last three years, Sirius XM’s subscriber base has grown at an average annual rate of about 8%. The growth rate hasn’t fluctuated much, and in fact slightly grew  to 9% in 2012, which was a record year for the company. If we look at the absolute numbers, the company gained on average 1.7 million subscribers annually. However, this count has been increasing each year, amounting to 2 million in 2012. Does that mean the subscriber gains will be even higher in 2013?

We feel that overall subscriber additions may come down slightly. The company seems conservative about its guidance and expects to gain 1.4 million subscribers in 2013. The growth in the U.S. car market is also expected to slow down this year. In addition to this, Sirius XM’s new vehicle conversion rate has dropped slightly from 46% in 2010 to 45% in 2012. Furthermore, competition is likely to increase from companies such as Pandora (NYSE:P) and Apple (NASDAQ:AAPL). Much of music listening happens during driving, and traditional Internet music companies will try to get a bigger share of this market. While we expect the percentage growth to come down, we believe that Sirius XM will gain 1.7 million subscribers annually over the long term, similar to what it has done in recent years.

As of August 2012, Sirius XM satellite radios were already installed in 50 million cars. However, only a fraction of these are active. The company expects that over 100 million cars will have factory-installed Sirius XM radios by 2018. However, we don’t expect Sirius XM’s subscriber base to double in this manner as that would imply no changes in the market scenario and the level of competition.

Potential Upside

If Sirius XM can hold its ground against rising competition and continue to sustain its new vehicle conversion rate, its subscriber base could grow past 40 million in the long term. Such a scenario can lead to more than 10% upside to our price estimate.

While doubling the user base might not be possible as competition from Pandora (NYSE:P) and others is rising, Sirius XM is making some serious efforts to branch out to the Internet medium and promote its online streaming app. This will help broaden its subscriber base and defend it against Internet-based competitors that are expanding into in-vehicle systems. With its new service called MySXM, Sirius XM intends to give its subscribers a personalized radio experience, similar to Pandora’s.

Our price estimate for Sirius XM stands $2.61, implying a discount of about 25% to the market price.

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1. U.S. Car Sales Pace Hits Five Year High, The Wall Street Journal, July 2 2013 [↩] [↩]