I felt that it was just on time for this one. I have heard about Liberty Media previously, though I have never looked into it in more detail. I got interested in LSXMK/SIRI and started deep diving into it to find out that this could be a good opportunity.
The Opportunity:
Tracking stock trading at a discount to the underlying, which is going through a (relatively certain) merger with the underlying, converging the two stocks tracking the same entity into one, with potential gain due to:
- The underlying may have been shorted, hence the price is artificially depressed.
- Thus, there is a higher chance that the tracking stock may then converge to the underlying price, which is trading at a 40%+ premium.
- The pending merger caused the underlying stock to halt stock buybacks, which have supported their price in the past.
- Potential index inclusion post-merger.
- The underlying stock represents a very good business (monopoly) with more tailwinds than headwinds going forward.
- The underlying business is well-positioned as an acquisition target by tech platforms looking to acquire a loyal subscriber base and directly tap 30M+ customers.
About the Opportunity
Liberty Media owns about 80%+ of SIRI. Unlike Berkshire Hathaway, it has made its holdings in the form of tracking stock that anyone can purchase. In this particular example, Liberty’s holding of Sirius XM is traded under the tickers LSXMA, LSXMB, and LSXMK. This has become an interesting opportunity because, unlike their other holdings, in December 2023, Liberty Media and Sirius XM announced that they would merge the two into a combined “New Sirius XM” trading under the current Sirius XM ticker. It is also announced that the conversion rate will be about 8.4 SIRI per LSXMx stock.
As of the time of this writing, the tracking stock is trading at a relatively high 30%+ discount to the underlying stock. You might also see it the other way: that the underlying is trading at a 40%+ premium. We don’t know at what price the new entity will trade. The company plans to vote on 23 Aug 2024, and if everything goes smoothly, as we expect it will, the new entity will start trading on 9 Sep 2024.
The Arbitrage Opportunity:
The arbitrage opportunity is to buy tracking stock and short the underlying stock, pocketing a risk-free profit. However, the underlying stock has been trading in a more volatile manner, with shortable stocks not available and borrowing costs that could fluctuate and become very high.
The Long SIRI Opportunity:
To look into half of the arbitrage opportunity—that is, long tracking stock—we need to understand what the underlying company is about, as we may need to hold it longer term.
But, What Is Sirius XM?
Sirius XM, in a nutshell, operates a monopoly in satellite radio service in the US. It is a merger of Sirius and XM from pre-2010, and Liberty Media came in to provide debt to them. It has since grown its subscriber base rapidly until recently, where the number of subscribers is tapering and going down. The business is very good with roughly 50% ROIC; however, its net book value is negative due to the high load of debt it has. The company itself has been using its free cash flow to pay dividends and conduct share buybacks. Therefore, the debt here acts more like leverage than necessity.
Headwinds and Tailwinds
- The company’s subscriber count growth is tapering off. While we think the company will be able to grow the subscriber count, our base case is that the subscriber count will stay stagnant, due to the increment of new subscribers being offset by those who are churning.
- The company is currently going through a capex cycle to renew its satellites, which, once completed, can result in low maintenance capex, resulting in higher free cash flow, ultimately enhancing shareholder return.
- The company has very high debt compared to its assets, but as mentioned, more as leverage instead of necessity. It is planning to utilize its FCF to pay down the debt. Another tailwind to this is the Fed rate hike cycle is ending and going into the reduction cycle.
- The company has a monopoly in satellite radio, which, while facing competition from the likes of Spotify and YouTube, has its own niche audience, mainly those who commute within areas with poor coverage of internet service.
- As a bonus, there could be potential for a Sirius XM acquisition, supported by Liberty Media and Sirius XM simplifying the structure, unlike in the case of other Liberty holdings.
Concluding Thoughts
I have gone long SIRI through LSXMK, which hopefully provides me access to a stock with some tailwinds (artificially depressed due to execution of arbitrage opportunity, temporarily suspended buyback, potential index inclusion) that represents a business that has more tailwinds than (manageable) headwinds at a hopefully instantly collapsing discount.