Coming Soon to XM: More Commercials

XM will air ads on some music stations, and analysts say that may just be the beginning. Advertisers couldn't be more pleased

Come May, some XM Satellite Radio listeners will hear a jarring new sound: commercials. XM will air advertisements by Clear Channel Communications, an early investor and owner of competing radio stations, on certain music channels including KISS, specializing in contemporary hits, and Nashville, a country music station.

XM (XMSR), like its smaller satellite radio rival Sirius (SIRI), airs commercials on its talk-show stations. But by and large, commercials on music stations are anathema. XM agreed to air the commercials to resolve a dispute over demands by Clear Channel (CCU) that XM run ads on stations for which it provides programming. Now, Clear Channel can run the ads indefinitely.

An XM spokesman insists advertising won't spread to other music channels. "We are committed to maintaining commercial-free all music channels we program," he says. Sirius also says that its music channels will remain off-limits to marketers.


 But is that so much wishful thinking? Analysts say the XM-Clear Channel move may herald a new era for satellite radio. XM recently replaced its marketing slogan of "100% commercial-free music" with "most commercial-free music channels." XM and Sirius are increasingly reliant on ad revenue from talk shows.

It may be a matter of time before ads migrate to music channels, says Gartner Research analyst Laura Behrens. In five to ten years, XM and Sirius's mix of programming and advertising will be comparable to that of traditional, or so-called terrestrial radio, she says. "Eventually, [both media] are going to get more similar as they evolve."

For XM and Sirius, more commercials may become a necessity. Satellite radio competes with terrestrial radio for users. And both types are facing a barrage of new competition, from music-download sites to services such as Motorola's (MOT) iRadio, which will let users pick from some 435 commercial-free radio channels to record on mobile devices (see BW Online, 1/13/06, "Everyone's Aiming At Satellite Radio"). Besides staying as commercial-free as possible, the satellite radio stations need to set themselves apart through content. And content doesn't come cheap.

Sirius is shelling out $500 million for shock jock Howard Stern. XM and Sirius each spend about $1 billion a year on programming. And neither is profitable. Analysts surveyed by Thomson Financial expect Sirius to lose more than $1 billion this year on $614 million in sales. XM is expected to report a loss of $529 million on $952 million in sales.


  While XM should reach profitability in 2008, analysts don't yet have a profitability target for Sirius. Both companies "have to be looking for all revenue sources, and ads are one of them," says Ted Schadler, an analyst with consultancy Forrester Research.

Advertisers are all too eager to oblige. In recent years, before XM and Sirius built big subscriber bases, many advertisers were uninterested in satellite radio. Times are changing. Sirius has recruited high-profile stars such as Stern and boasts 4 million subscribers, while XM has 6.5 million users and plans to air shows by Oprah Winfrey starting in September.

"Advertisers were concerned about mass," says D. Scott Karnedy, senior vice-president of sales and marketing solutions at XM. "When we broke through six million subscribers, we saw that as a tipping point [with advertisers]." Sirius expects to have more than 6 million subscribers by the end of this year. And already the company's talk-show channel advertisers include prime brands like Subaru and Heineken.


 Last year, XM tripled the number of ad agencies it works with. Its ad revenues have grown sevenfold in the past two years, to $20 million last year. "We can't keep up with the demand," says Karnedy. At Sirius, advertising sales increased more than sixfold, to $6.1 million in 2005.

And in February, Chief Executive Mel Karmazin told investors that Sirius already has garnered more advertising commitments this year than it had in all of 2005. In fact, January, which is typically slow, was the best month for the company's advertising sales in its history. "Our advertising is growing fantastically," says a Sirius spokesman.

Sirius is considering increasing commercial time on its Howard Stern show from six to nine minutes an hour. XM, meanwhile, expects to double its ad-sales team by mid-2006, compared with mid-2005 levels. The company also will increase the number of commercial minutes on its talk channels, currently at about seven minutes an hour. On terrestrial radio, talk-show channels typically have well over 12 minutes of commercials each hour.


  Fred Moran, an analyst with Stanford Financial Group, estimates both companies will receive 10% of sales from advertising by 2011. That may be conservative. Sirius expects advertising to reach 10% of revenue in the next couple years. Advertising now accounts for less than 1% of Sirius sales today.

Indeed, satellite radio could take a substantial bite of the $20 billion terrestrial-radio advertising pie. "If you listen to Howard Stern, you'll hear an awful lot of the advertisers who were with him when he was in terrestrial radio," Karmazin said recently. "So I assume either those advertisers increased their budgets, or maybe they didn't increase their terrestrial-radio budgets much and they're giving us the additional revenue" (see BW Online, 4/10/06, "Stern Is The Draw At Sirius Satellite Radio").

That's really no surprise, as XM and Sirius can offer advertisers looking for a national reach more than terrestrial radio can, at least for now. XM and Sirius allow for text capabilities: Your in-car XM radio might display an advertiser's phone number while an audio commercial is playing. And graphics- and video-displaying capabilities are on the way. "We are creating new ways to engage with consumers," says Karnedy. "And we are driving remarkable results."


  A recent study done by XM showed that adding text to radio ads boosted recall rate (that's the percentage of people who remembered hearing an ad) by 47%. XM also allows companies to sponsor specific channels or shows, offer sweepstakes and contests, and to reach out to users via newsletters (see BW, 3/27/06, "XM Satellite: From Handshakes To Stores In Just Nine Months").

Satellite radio stations can also offer other flexibility. Terrestrial-radio stations discourage ads that are longer than 60 seconds. But last fall, Tanqueray, the maker of a popular gin, ran ads on Sirius that were 2.5 minutes long. The segment included an original hip-hop song, "Get Your Ice On."

Terrestrial radio still has advantages over satellite radio, though. Satellite radio is unable, due to regulations, to broadcast local channels, so it can't as effectively compete for ads from local small businesses.


  And traditional radio isn't standing still in technology, either. This year, the industry is making a huge marketing push for High Definition (HD) Radio, which will allow terrestrial-radio stations to significantly increase the number of channels they broadcast to better compete with the more varied satellite radio.

Users need HD radio receivers to be able to listen to these new channels, which will be supported by ads or subscriptions. While HD radio stations (there are more than 1,200 today) are ads-free, that could change.

And just as satellite radio advertising ramps up, traditional FM/AM radio is becoming less ads-packed. Since late 2004, Clear Channel, which owns about 10% of radio stations in the U.S., has cut back on the amount of commercials by about 20%, according to the company.


  As a result, user-time spent listening has been jumping by double digits every quarter. Ratings have been on the rise. Interestingly, the outfit's ad revenues have been increasing as well, as advertisers clamoring for fewer spots are willing to pay more.

Indeed, terrestrial and satellite radio are becoming increasingly alike. And while that may come as bad news to satellite listeners, it's music to advertisers' ears.

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