One can forgive Mel Karmazin for having nightmares about conversions. The CEO of Sirius XM Radio Inc. no sooner got regulators and shareholders to sign off on the conversion central to his radio company's merger -- 4.6 shares of Sirius Satellite Radio Inc. for each share of XM Satellite Radio Holdings Inc. -- when the economy began buffeting another conversion critical to Sirius XM's survival.
The latter is the conversion of new-car buyers to permanent subscribers of the radio service after a free trial period, which usually lasts three months. As Sirius merger-partner XM put it in its last 10-K as a standalone: "We measure the success of these promotional programs included in our OEM [original-equipment manufacturer] promotional subscriber count based on the percentage of new promotional subscribers that elect to receive the XM service and convert to self-paying subscribers after the initial promotion period. We refer to this as the 'conversion rate.' "
Unlike Sirius, XM even reported that percentage. "The conversion rate for 2007 was 52.7% compared to 53.3% for 2006," the 10-K stated.
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Although XM's conversion rate historically beat Sirius' by a point
or two, analysts report it hasn't exceeded 50% since the sat
broadcasters combined in July. And that could be a problem for two
reasons.
The first has to do with a slowdown in new-car production. CEOs of
the auto industry's Big Four predict U.S. sales of 14 million units for
both 2008 and 2009. That's down from 16.2 million in 2007 and 16.6
million in 2006.
Moreover, of this year's batch of new cars, 45% will come equipped
with the requisite satellite broadcasting equipment. That's up from the
33% last year that, to use the vernacular, left the lot loaded.
Speaking at an investment conference last week, Karmazin assured the
audience that the increase in OEM penetration will more than offset the
decline in auto production. Hence his claim that 2008 will deliver
"more gross OEM adds than at any time in history."
But with sat radio's future increasingly dependent on OEM
installations -- as opposed to retail sales -- diminished auto production
can only be bad news. There are simply fewer opportunities to convert
new-car buyers into Sirius XM subscribers. Even Karmazin, though
exuberant as ever, recognized as much when he said he wished "we were
back in 2005," when U.S. new-car sales topped 17 million.
The second problem has to do with conversion-rate declines,
irrespective of auto production. Sat radio has catered to the elite,
historically, through exclusive negotiations with such auto models as
Aston Martin, Automobili Lamborghini, Bentley, BMW, Jaguar,
Mercedes-Benz and Rolls-Royce.
A source describes this customer demographic as a "self-selecting
group" with pockets deep enough even to pay the $16.99 a month that,
starting Oct. 16, will deliver "Best of Both" programming from the
merged company's Sirius and XM halves.
"But what happens when [sat radio] gets installed in every Chevette
that's out there?" the source wonders. "That's when we'll see if the
public really cares."
Indeed, assuming a conversion rate of 50%, an almost alarming
faction of the auto-buying public has already declared its
indifference. Karmazin himself used data that put the total number of
"OEM gross adds" between 2005 and 2009 at 23.4 million. This, in turn,
suggests 11.7 million trial users will have elected not to convert into
sat-radio subscribers by the end of next year.
These rejections may soon have Karmazin confronting a
law-of-big-numbers awareness problem -- their five-year tally, after
all, will be equal to 84% of new-car buyers projected for next year --
not unlike one pollsters once ascribed to presidential candidate
Hillary Clinton: An awareness rating of the highest order undone by a
disapproval rating almost as high.
That's not to say Karmazin & Co. can't overcome such challenges.
Just getting the merger to pass regulatory muster once struck many as
impossible. And an official estimate of the synergies thereby permitted
was revised upward just last week to $425 million.
What's more, Karmazin expects Sirius XM to boost sales by 13% next
year, compared with negative 3% growth for the overall radio industry.
Soon enough, however, sustained growth by Sirius XM will require a lot more preaching to the unconverted.
Richard Morgan covers media for The Deal.
