XM TUNES INTO FCC TROUBLE The satellite radio company's stock gets hit after some of its plug-and-play radios fail to pass muster again Catherine Holahan – Business Week
Investors have not liked the noise surrounding XM Satellite Radio. On Aug. 11, XM (XMSR ) shares declined 3%, to $10.84, after the company revealed that the Federal Communications Commission had requested additional information about its plug-and-play radios. The company has suspended production and shipment of eight radios, including the Sportscaster and MyFi series, until it can bring the devices into compliance.
News of problems with the radios first surfaced in April, when the company disclosed the FCC had compliance issues with some portable devices that convert satellite broadcasts into FM signals for play on standard car radios. The signal on some devices was too strong and had the potential to corrupt FM signals received by other drivers.
XM tried to correct the problem, but when the FCC reviewed the radios, they didn't pass all the tests. "We are working to complete these design modifications," says XM spokesman Chance Patterson. "We anticipate that we will obtain new certifications for XM radio in the coming weeks."
STRONG SIGNAL. In recent months, issues with FCC compliance have hurt both XM and competitor Sirius Satellite Radio (SIRI ), which also has FM transmitters in its plug-and-play products (see BusinessWeek.com, 3/7/06, "Star Potential for Sirius Stock"). On July 20, shares of XM and Sirius declined after the FCC brought attention to signal strength issues.
"It is not a brand new problem," says James Goss, an analyst with Barrington Research, a Chicago investment firm. "[XM has] been trying to deal with this for the past several months, so I don't think it should throw off their pronouncements."
The initial fix was a relatively low-cost solution involving the use of ferrites, a dense metallic fixture often used in communications and electronics. The ferrites were encased in plastic and clipped onto the receiver cables, thus softening the FM signal.
Trials of the ferrite system with an FCC-approved testing company were successful. But when the FCC tested the solution, the FM signal was still too strong in at least one of the trials.
SIRIUS ISSUE? The FCC news has hit XM's stock harder than shares of Sirius because Sirius maintains it has corrected the problem. In an Aug. 10 press release, the company announced that one of its radio manufacturers, Kiryung Electronics (KRI ), has resumed production and distribution of the branded radios with FM transmitters once the FCC gave its approval. Sirius shares were flat, at $3.77, on Aug. 11.
However, there may be problems with the Sirius fix as well. "We believe it is likely that the FCC has made the same inquiry of Sirius," wrote Bank of America analyst Jonathan Jacoby in an Aug. 11 note to investors. Sirius representatives could not be immediately reached for comment.
Jacoby also worried the Sirius attempt to dull the signal strength may have gone too far, impairing customers' ability to receive their satellite transmissions. Sirius hinted as much in a 10Q filed with the Securities & Exchange Commission on Aug. 9: "Sirius radios that include compliant FM transmitters may be subject to some transmission noise, which may result in us encouraging professional installation in some cases. We continue to study methods to improve the customer experience for our subscribers using Sirius radios that rely on FM transmissions." Jacoby wrote: "Our concern is that the consumer experience may be quite poor on the FM transmitters…with the net result being higher churn going forward."
HOLIDAY CONCERNS. Jacoby prefers XM, which he rates a buy, to Sirius. Other analysts, however, are cautious about XM.
Sirius is manufacturing and shipping its portable FM convertible models. That means when people want to buy a satellite radio this holiday season, Sirius' models will be on store shelves. Although XM is confident it can fix the problem "in the coming weeks," analysts do not see the company as having a guaranteed timetable.
Analysts say XM needs to find a solution soon. Two of the suspended radios, the MyFi and the Roady XT, are among the company's hottest sellers. "While their most popular after-market product, the Pioneer Inno MP3 player, has not been targeted, a meaningful subset of their aftermarket products has, and that will be a major problem for them if they can't work quickly to get the compliance issues resolved," says Tony Berkman, director of research at New York-based Majestic Research.
Analysts fear that XM's problems could run into the peak holiday sales season. "If XM doesn't find a solution soon—namely by September or mid-September—they face a real problem with the holidays," says Lucas Binder, a director at UBS who has a neutral rating on the stock with a $12.50 share target. "We do think they are going to get a fix done, but we don't know if it is a small fix that they are working on or a retrofit. If it is something that they have to retrofit or that makes them retool the whole process, it can take four to six weeks. If it is a simple fix, it could take a week or two."
WAITING FOR PROFITS. Both XM and Sirius need to sell aggressively this holiday season, and every season after that, in order to become profitable. In 2005, XM had losses of $667 million, and its share price was down 65% from 2004. Sirius had even greater 2005 losses of $863 million, and its share price was down 44% from the prior year (see BusinessWeek.com, 8/21/06, "Grudge Match").
Binder projects that the companies will become profitable by 2011, after their subscriber revenue grows to a point that finally overcomes the companies' large development and content costs (see BusinessWeek.com, 2/17/06, "Static at XM Satellite Radio"). However, without the ability to plug in portable devices and play satellite stations over the car radio's FM dial, XM would be in trouble.
As far as investors are concerned, XM needs to play a better tune soon. |