Wednesday, May 04, 2005

"Satellite” Killed The Radio Star?

With the signing of Martha Stewart, Sirius Satellite Radio has completed a collection of radio content that rivals many of the largest media conglomerates carrying names like Howard Stern and NASCAR. XM Satellite Radio boasts the highest number of subscribers willing to pay $12.99/month to listen to 150 commercial free radio stations and content like Major League Baseball.

Between the two, satellite radio has made an enormous splash hitting 5 million subscribers in less than 4 years. In fact, the speed by which they hit that peak is faster than cable. It may be the fastest of any consumer product and it’s projected to hit 20 million households by 2010 (25% penetration). That speed has many Wall Street and industry analysts declaring the end of broadcast radio. For instance, XM sports buy ratings from 82% of Wall Street coverage, while the largest radio company Clear Channel has only 58%. Smaller companies, such as Entercom and Citadel have even poorer opinions with only 33% of analysts having buys. Rooted in the ill constructed mergers of the later 90’s, radio consolidated into a back office driven media composed of heavy song rotation that made stations feel “corporate.” Between satellite reaching the same penetration in 4 years that it took cable 13, Ipods sales numbering 10 million, cellular phones incorporating MP3 capabilities, and the growth of internet radio stations, this must mean “free” radio is dead. Doesn’t it?

Looking specifically at satellite, the challenges terrestrial faces are daunting and real but we think reports of radio’s death may be greatly exaggerated. While the rush to 5 million subscribers clearly proves consumers are willing to pay for something that is free, radio’s biggest asset is still its ubiquitous presence and free access. Satellite’s receivers are the biggest impediment to broad acceptance. Pun intended, radio has a “network” effect that will be hard to displace. While agreements with auto OEM’s have gotten satellite radio’s foot in the door by attacking terrestrial at its heart, the car, with free equipment and first year coverage, leveraging that one receiver into a consumer’s living room, bedroom, or older car, much less splitting the market between two companies with different technologies, may be harder. At over $200 and a monthly fee per receiver, the switching costs are high for non-early adopters. So high in fact that to reach 2010 projections, satellite either needs complete adoption by upper income brackets or large segments of lower income consumers. If high gas prices and debt are impacting retail consumer spending, spending money on a new receiver seems doubtful.

Believers tend to counter that if consumers are willing to pay $50 a month for cable/cell phones, why wouldn’t they for the equivalent of two movie tickets? The problem with this analogy is the difference in the reason for consumer consumption of the products. Cable, cell phones, and movies are “pull” technologies in consumers’ minds: call, choose your TV show, or watch a movie as you wish. This fulfills a different consumer need than radio, which tends to meet a “push” need: filling the background with interactive noise. If a consumer wants to listen to a specific sporting event/artist, they tend to turn toward a specific TV/radio broadcast or CD, an option that already exisits. Put another way, satellite may not be a straight substitute for many consumers especially given the price.

This highlights a small, but broader problem with the substitutes: lack of local touch. One of the highest values radio provides is “local content.” With a national, commercial free format, satellite radio lacks local news in the form of commercials for sporting/entertainment events, local contests, and other things that keep radio local in spite of the consolidation. Satellite may be able to develop local content for the largest markets as a response, but the choice it brings might be more suitable for rural markets, something harder to replicate with satellite radio.

Another hurdle for satellite could also be a push in DC to regulate it, re-regulating Howard Stern before he gets unregulated.

Beyond some of the strategic barriers inhibiting complete domination by satellite radio, the industry is facing steep financial barriers as well. In spite of the initial adoption, the industry leader XM has not turned a profit or generated positive operating cash flow and has substantial debt balances, while Sirius has added big name stars at steep prices. Traditional radio companies have substantially improved their balance sheets over the last three years leaving them greater flexibility to compete with the challenges. And, as Michael Miranda and Brad Pitzele noted, both Viacom and Clear Channel are pursuing strategic restructurings that may leave their radio properties more focused at competing with the threats.

And flexibility is something that radio will need to use to revolutionize itself. In some ways, the revolution has already begun. Terrestrial stations are embracing new concepts and formats to fight back such as podcasts and channel splitting, and digital radio may provide new technological ways to compete.

While the above discussion does not even touch on the threats that Ipod and Internet radio which should not be under-estimated, the places Ipods are used seem to again fall into substitutes for other pull technologies such as car CD players and Discmans. A hybrid technology between Ipods and satellite radio may pose a bigger threat for terrestrial. The XM2Go may be that product, but the reviews are mixed and the challenges to that product remain.

In the end, the war has begun and the wind is clearly behind the challengers’ backs and in terrestrial’s face. The bulls believe the threats to the incumbent may be similar to the threat MCI posed to AT&T when long distance was deregulated but occurring at a much quicker pace. The value proposition offered to consumers from a pricing standpoint, combined with the network barriers to switching, however, may leave satellite a niche, although sizeable, more similar to Apple’s market share versus Microsoft.

Patrick Schott, Catherine Canman, and Lars von Kingdale


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