11 Feb 2009

Customer lifetime value … why Sirius XM may not survive

Raj Bhatt

It appears that Sirius XM, the satellite radio service provider, is close to filing for bankruptcy (click here). The company has been raking up losses for the past several years and is under a significant debt burden.

How can one figure out whether a subscription-based business is viable? The answer may lie in a concept called ‘customer lifetime value‘.

Customer lifetime value is the discounted value of all the expected net cash inflows from a customer over his/her expected subscription lifetime. Expected Net cash inflows are computed as Expected Revenue less Expected cash operating expenses less Acquisition Costs incurred (these can be estimated monthly and discounted). Expected subscription lifetime can be estimated using the current churn/attrition rate.

I ran some analysis based on the latest quarterly results of Sirius (click here).

  • Their customers come from two major channels: Car ‘OEM’ companies (which install the radios in cars and offer a 3 to 12 month free service package) and Retail. Both channels account for approximately 50% each of the total subscriber base.
  • On average, Sirius XM generated $10.74 per user per month in revenue (ARPU) and spent $3.2 per user per month on variable cash operating costs (revenue share with music companies, customer service & billing).Thus they generate $7.54 of cash per new user per month on an incremental basis.
  • They also spent around $107 Million per month on fixed cash operating costs (Howard Stern‘s salary, content costs, satellite costs,etc). This does not include interest costs, taxes, depreciation, ESOP expenses, restructuring expenses or goodwill amortization (which are all substantial but not cash operating costs). This equates to $5.72 per existing subscriber per month.
  • Their churn rate among paying customers is 1.7% per month. Thus the average lifetime of paying customers is 59 months.
  • Their acquisition cost per new customer is $74. However given that 53% of OEM customers deactivate before becoming paying customers, the acquisition cost per paying customer is really $101.
  • Sirius XM carries assets less cash of around $7.14 BN. That equates to $378 per existing subscriber.

It is simple math to see that $7.54 of monthly incremental cashflow per new customer is not enough to pay for $5.72 of fixed monthly cash expenses and for the upfront investment of $101, over a 59 month lifetime.

Note that I have not talked about generating return on the $378 fixed assets per subscriber yet. Even if Sirius XM declares a bankruptcy and brings down its asset (and liability) base down to near zero, the fundamental business needs to improve to be viable, post Chapter 11.

Here’s what Sirius XM could do to make it’s business viable, post Chapter 11:

  • Renegotiate costs with Howard Stern and the record labels
  • Increase prices (though its not the most popular move)
  • Tiered pricing : higher pricing for ad-free radio and same pricing for advertising-supported service
  • Increase the price of receivers
  • Ask for donations from existing subscribers (the PBS model; maybe they can have Howard Stern making phone calls ;-) )

Please don’t use this blog as the basis for any investment decision. My comments are purely my personal views. Full Disclosure: I have been short SIRI for a few years now.

I would love to hear your views…

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analysis, bankruptcy, Customer lifetime value, Sirius

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