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Growing pains for satellite radio

Spurred by deals with high-profile talker Howard Stern and Oprah Winfrey, along with deep price cuts in satellite radio receivers, Sirius and rival XM Satellite Radio are writing a new chapter in the history of radio. But it’s not at all clear how this chapter will end.   By’s John W. Schoen
New York Yankees' Derek Jeter appears in a TV spot for XM Satellite Radio as part of XM's "Listen Large" marketing campaign. But analysts say it takes more than high-profile celebrities to sign up new customers.PRNewsFoto
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Spurred by deals with high-profile talker Howard Stern and talk show goddess Oprah Winfrey, along with deep price cuts in satellite radio receivers, Sirius Satellite Radio and rival XM Satellite Radio are writing a new chapter in the history of radio.

But it’s not at all clear how this chapter will end.

The optimists point out that the two rapidly growing companies have a combined customer base approaching 10 million subscribers, each paying about $150 a year to hear hundreds of commercial-free music channels, as well as sports, talk and lifestyle programming.

But the half-empty types point to the fact that each company has lost more than $2 billion over the past four years, as they spent heavily to add programming, promote their brands and subsidize the cost of the receivers sold to new customers. On Thursday, XM, the bigger of the two players, said that losses widened in the fourth quarter to $270 million. Sirius, which reports fourth results Friday, is expected to report losses of more than $290 million. Neither company is expected to turn a profit for at least several more years.

Meanwhile, new competitors are coming down the pike, as wireless broadband Internet service begins to take hold. Cell phones, MP3 players and Web-based radio may soon converge on cheaper, more powerful portable handsets. And Auto makers are busy working to develop wireless broadband services for your car.

So the question both companies face is: How long can we afford to continue to lose money? The answer to that question has sparked a high-level corporate battle at XM that resulted in the departure Thursday of a company board member, who warned of "a significant chance of a crisis on the horizon."

By any standard, satellite radio’s growth so far has been meteoric. From a modest base of a few hundred thousands subscribers three years ago, XM now boasts about 6 million customers, about twice as many as rival Sirius. Spurred by steep cuts in the price of receivers — now selling for as little as $30 to $50 — subscriber growth exploded last year. Some analysts predict the market will hit 40 million in four years.

“This is a razors-and-blades business,” said Craig Moffett, an analyst with Sanford C. Bernstein. “Discounting of radios is one of the obvious levels they've got to stimulate subscription demand, because over the long term that's where they make their money.”

Because so much radio listening takes place in cars, both Sirius and XM have made exclusive deals with automakers to offer their receivers in new cars. XM has locked up General Motors, which plans to install 1.5 million XM radios in new cars this year. XM has made similar deals with Toyota, Nissan, and Hyundai. Sirius, will have its receivers installed in new Ford and DaimlerChrysler vehicles.

But the big draw is programming, and both XM and Sirius have invested heavily to give subscribers plenty of choice. Each service offers subscribers more than 60 music channels, without interruptions from commercials (or, in some cases, from DJs) and dozens more channels of talk, news, sports, traffic and weather.  Sirius has signed a $220 million deal to carry National Football League games; XM paid $650 million for Major League Baseball.

The biggest splash came when Sirius signed up Stern, the self-proclaimed "King of All Media," who had already boosted subscriptions for both services even before his first show. The logic of spending $500 million for a money-losing enterprise may seem puzzling at first — until you do the math. If one-third of Stern's estimated 12 million fans sign up to pay over $150 a year to keep listening, Sirius theoretically could recoup its investment in less than a year.

XM promptly fired back, signing Winfrey last week to a 3-year, $55 million deal. (Analysts who are bullish on XM said the company got the better deal by enlisting Winfrey's powerful promotional platform at a much lower price than the Sirius deal with Stern.)

But there's a catch: It takes more than a high-profile radio or TV entertainer to sign up a new customer. Though millions of new car buyers are expected to try the service in the next few years, so far only about half of them are signing up after an initial trial period.

Those subsidized, unused receivers are just one of a number of so-called “subscriber acquisition costs” — which include everything from the cost of firing up a new receiver to the incentives paid to carmakers to install them — that eat into subscription revenues. Last year, it cost as much as $150 to sign up each new customer. (That figure is expected to fall as the total number of subscribers grows.)

Meanwhile, so-called “terrestrial radio” — the AM/FM technology that’s entering its second century — is not about to fade away. Though the radio industry’s growth has been hampered by the rising chatter of saturation advertising (one of satellite radio’s key selling points), new digital technology is allowing radio station owners to split their signals and vastly expand the number of channels they can offer. Some radio programmers have cut back on the number of ads they're serving up, hoping that increased ratings will make up for lost revenue from carrying fewer ads.

But the biggest threat to satellite radio may come from the next generation of communications technology to tap into the expanding sea of drivers stuck in endless traffic jams. Car makers are already looking at the potential for wireless Internet as a means to serve up music from anywhere in the world, provide service information from the dealer, find the nearest Thai restaurant, or even download software updates to your car's onboard computer.

So despite satellite radio’s current growing popularity, it remains to be seen whether subscribers will remain loyal to the new technology.

“Not all consumers will want to spend $150 a year for satellite radio when terrestrial radio, still available through satellite radio hardware, costs nothing,” said Morningstar analyst Michele Corty in a recent research note. “Digital music on MP3 players, wireless networks capable of streaming Internet radio into the car and content through cell phones loom as potential threats, too.”