Sirius XM Holdings Inc (SIRI)

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Since the Merger: A Look Back Part 1

(Title condensed so it would fit in full on the ihub post list. Complete series will be linked in the Ibox)

Sirius XM (SIRI) Since the Merger: A Look Back (Part 1 of 3)

17 May 2010

Thanks to Dennis “Cos” Costa from Satellite Radio Playground

http://satelliteradioplayground.com/2010/05/17/sirius-xm-siri-since-the-merger-a-look-back-part-1-of-3/#more-1111
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This is the first installment of a three part series on Sirius XM Radio (NASDAQ:SIRI) since the FCC merger approval occurred at the end of July 2008. This three part series will concentrate on the company’s debt and its impact on the company’s history since the merger (Part 1- A Look Back), what role it plays since the introduction of John Malone’s Liberty Media as a non-controlling partner (Part 2-The Recovery), and what role the debt will play in the company’s future (Part 3 – A Look Forward). In discussing the debt, both internal and external factors will be considered.

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by Dennis “Cos” Costa

When the FCC gave final approval to this merger of satellite radio equals in July 2008, even with all of the operating efficiencies about to be realized from the merger, it was the company’s debt that soon became the overriding concern of investors and critics alike. Just six months after the merger in February 2009, a lifeline was needed to avoid bankruptcy from John Malone’s Liberty Media Corp. (NASDAQ:LCAPA). The looming debt concerns proved to be legitimate and pivotal in setting the stage for the current company’s future. This dire and costly event has made some investors cautious of the company. This caution is appropriate without possessing a clear understanding of the company’s fundamentals and debt structure.

To fully evaluate the cost to shareholders of this right-of-passage for the company, a look at the six months leading up to those dark days of February 2009 from the time of the merger is necessary. Understanding where the company came from, makes it easier to understand where it is going, and by what means it will get there. It is prudent for investors to question the effectiveness of the company’s activities in restructuring and paying down debt, to assess the potential for future gains.

For both current and would-be investors in the company’s stock, the next question is fundamental: Is the risk worth the reward? This look back can help to determine whether or not history will repeat itself — and if a new future of self sustaining free cash flow is attainable, and then sustainable. Paying off and restructuring debt, developing new and innovative equipment, funding the company’s future capital expenditures, while maintaining unique and premium quality content, is what must be achieved from the company’s business model for them and their shareholders to be successful. Let’s take a look back to see what caused this near-death financial experience that now gives investors cause to take pause.

A Look Back


After a very long 17 month merger approval process, many retail investors, pundits, and speculators alike were confused to see this company’s stock price head south the day after the company announced the FCC approval had been granted. Up until that day, pundits were predicting stock price gains just from removing the risk of the deal not being done. Most touted that the expense savings from the operating synergies resulting from the merger would compound those gains. This was not to be. As always, the devil was in the detail, and timing is everything.


When the announcement of the debt restructuring and financing necessary to complete the deal was revealed, understanding quickly materialized within the investment community. It was the reality of the company’s already looming debt, and timing of its maturity, that was becoming a prevalent concern. The merger approval process had taken too long. The operating synergies originally projected by the company to be over $400M did not appear that they would arrive in time. That, combined with the merger refinancing details, was the root cause for the stock price’s decline.

On the day after the FCC approval, with a billion dollars of debt coming due in 2009, Sirius XM restructured existing debt by taking on $778M in 13% Senior Notes and $550M in 7% Convertible Bonds, all due in 2014. The 7% Convertible Bonds also came with a share-lending agreement which provided purchasers of the bond with 263M common shares priced at $1.50. These lent shares were used to short the company’s stock for the purpose of supporting convertible arbitrage. At the time, Sirius’ stock was hovering at just over $2 per share. These debt restructuring details were 11th-hour to the merger deal and necessary for the deal to be consummated, as has been explained by company CEO Mel Karmazin.

This increase in total debt and move from $594M in 9.75% debt due in 2013 to 13% debt due in 2014 followed XM having announced a month earlier that the $400M due in December 2009 was going from 1.75% to 10% PIK Notes. The December 2009 note change was to appease bondholders who would otherwise define the merger as a change-in-control covenant event, requiring payment in full. Along with paying the $596M of 9.75% notes, they also repurchased XM-4 transponders’ lease-back for $309M and payed off $200M in floating rate notes due in 2013. The sum of their actions was to add roughly $250M in debt, including $69M in fees and interest, while taking their combined interest rate on that debt from 6% to 11.5%. This was not good news and the stock price paid dearly.

Clearly, the company’s debt, with very restrictive covenants, gave Bondholders a position of control over the company’s Board of Directors, and came in front of any possible benefit that would come to shareholders in the near term. With a high percentage retail investor base, who tend to be less adept in understanding the impact of maturing debt, debt types, and the potential impact to cash flow, it took several weeks and months for the reality of the company’s situation to be understood. By then, the company’s stock price was at .30 cents per share and the end of 2008 was approaching fast.
Most understood the company’s potential, but few new the eventual impact that this debt overhang would have on their investment as they awaited for this merger to be approved. To complicate matters even more, the debt that was soon coming due needed to be refinanced during a period of time where credit markets were seized, Bear Stearns had failed and Lehmen Brothers was failing. A Perfect Storm of rare financial events, happening at the worst possible time, was about to unfold.

The eventual lifeline from Liberty Media extended to CEO Mel Karmazin and the company’s shareholders was born out of the need for cash to pay off the maturing debt of Sirius XM’s two wholly-owned subsidiaries. The two subsidiaries, Sirius Satellite Radio and XM Satellite Radio, had maturing bond or expiring bank credit lines consisting of $250M due in February 2009, $350M expiring in May 2009, and another $400M of XM’s 10% PIK notes coming due in December 2009.

Without sufficient funds available from the banks or having a sufficient amount of cash on hand, Mel tapped the company’s common stock treasury of authorized shares to begin swapping debt-for-shares, diluting the existing common shareholder in the process and putting even more pressure on the company’s stock price. Although this option may have been all that was left for the company, the intensity of dilution became even more extreme as the price of the common shares plummeted.

As the first debt was coming due, it was clear that the Sirius XM’s Board was running out of options and bankruptcy was becoming a serious consideration. The Board had used company common stock to trade for debt to willing bondholders, restructured $172M of 10% PIK Notes out to June of 2011, and that was not going to be enough. With rumors of Charles Ergen’s EchoStar Corp. buying up Sirius XM debt in hopes of taking control of the company on the cheap, Mel Karmazin and the Board of Directors made the decision to grant rights to Liberty Media, equal to a 40% ownership in the company, and to pay a $30M fee for its agreements and future considerations. For taking that risk, John Malone’s Liberty Media granted two loan tranches totaling $530M at 15%, with an additional agreement to assist in restructuring the remaining XM December 2009 debt if need be. A look at how Malone views opportunity might be summed up with this:

“You just have to be opportunistic, and try to figure out what creates value… where the bottom is, what creates incremental value, and in what combination.”

- John Malone, Chairman of Liberty Media Corporation

The problem with Sirius XM’s balance sheet was too much debt coming due with too few financiers competing for the business, without ample time to allow the business model to sustain itself. Even with the favorable terms of the loan agreements that Malone’s Liberty secured, making gains on fees and high interest payments, there was more here being recognized by Malone and his CEO Greg Maffei. In this statement we get some indication:

“We have been impressed with the company, its operations and management team. Sirius XM’s ability to grow subscribers and revenue in a difficult financial and auto market is indicative of how listeners view this as a ‘must have’ service.”

- Greg Maffei, Liberty CEO

Looking back to 2009, when two of Sirius XM’s partners GM (NYSE:GM) and Chrysler went through structured bankruptcies as part of the US Government’s bail out, this debt restructuring deal done by Mel Karmazin and John Malone accomplished the same results. This preserved shareholder rights and value — without an actual bankruptcy filing taking place. This made a huge difference for the common shareholder and the company’s management team, and kept the Bondholders from assuming control of the company through a court bankruptcy filing. This was the turning point for the company, and bought them the time necessary to evolve into the post merger company that had been promised.

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Part two of this three part series will look at the recovery process of the company, its realization of the merger synergies, and it’s return to both subscriber growth and the attainment of free cash flow. A discussion of the company’s continue debt reorganization through opportunistic refinancing and use of free cash flow will be included.

Position: Long SIRI