4 Reasons I Think Warren Buffett Just Increased His Position In This Forgotten Stock Split By 262%

Last week, I took some time to study Berkshire Hathawayits quarterly 13F filing, a regulatory report that shows what stocks institutional investors are buying and selling. In the case of Berkshire, I was curious to see what its leader, Warren Buffett, had been up to in recent months.

During the second quarter, some of Buffett’s biggest moves included reducing his position in the Apple by nearly half, and left the artificial intelligence (AI) software company entirely. Snowflake.

However, he made another investment that puzzled me at first glance. Oracle of Omaha acquired 96.2 million shares in the satellite radio service Sirius XM (NASDAQ: SIRI)increasing its position by 262%.

To say that Sirius XM has been a dud for some time would be an understatement. Shares are down more than 50% over the past three years, dramatically underperforming S&P 50035% gain.

Although I was a bit confused by the reasoning here, I came to believe that Buffett just found his next multibagger opportunity.

Let’s dig into Sirius XM’s business and make some connections to Buffett’s investment philosophy. After a thorough look at the whole picture, you may be more aligned with Buffett’s purchase of Sirius XM stock and inspired to pick up the stock for your own portfolio.

1. Cash flow is king

Sirius XM is not your traditional radio company. Although the company generates some revenue from advertising, the majority of Sirius XM’s sales come from subscriptions. Subscription-based revenue models tend to yield high margins, which can go directly to the bottom line.

The table below presents a number of key performance indicators and financial metrics for Sirius XM over the past year.

Data Source: Sirius XM Investor Relations.

At first glance, the performance illustrated above doesn’t look great. Sirius XM is experiencing noticeable churn in its subscriber base, which has directly impacted its revenue growth — or lack thereof.

The story continues

However, the company’s average revenue per user (ARPU) did not change too dramatically in this time frame. Without sacrificing subscription fees, Sirius was able to maintain and even slightly expand its gross profit margin and earnings before interest, taxes, depreciation and amortization (EBITDA). Afterward, the company’s free cash flow continued to grow — leaving Sirius to make new investments in emerging opportunities (more on that below).

A hallmark of Buffett’s investment protocols is identifying businesses with predictable income streams that drive toward the bottom line. Sirius is a clear example of this dynamic. While revenue hasn’t grown much, Sirius still has a huge subscriber base that it has been able to consistently tap into. At the end of the day, Sirius still has pretty strong unit economics, despite some failures when it comes to revenue growth.

2. Monopolies and moats

Another cornerstone of Buffett’s investment philosophy is identifying companies that have moats. Investors could argue that Sirius XM is essentially a monopoly because the company has no direct satellite radio competition in its core North American market.

This gives Sirius significant pricing power because subscribers don’t have many options. This dynamic is helping Sirius maintain strong ARPU levels and margins despite low revenue growth.

3. A new strategy that could add more customers

Although Sirius has no direct competitors, the company faces some headwinds. Namely, audio streaming services such as Spotify, Amazonand Apple all compete indirectly with Sirius. While each of these services offer unique advantages and appeal to different demographics, Sirius has invested heavily in a new strategy that I believe is geared toward taking on its larger audio counterparts.

Over the past few years, Sirius has acquired podcasts hosted by celebrities and influencers in an effort to expand its content and attract a new range of potential customers. Some of the newer content on the Sirius XM platform includes Jason Bateman, Sean Hayes and Will Arnett’s “Smartless” podcast, as well as Team Coco, a media venture created by late-night comedian Conan O’Brien.

4. Contrarian investments to the max

The last pillar supporting my thesis about why Buffett bought Sirius XM stock revolves around him being a contrarian investor. Contrarian investors may see a lot of value where others see a falling knife. Besides the fact that the business has struggled to acquire new subscribers for some time, I think investors may be selling Sirius stock for another reason.

Sirius is doing a reverse stock split. Reverse splits often cause negative sentiment because they are often used as a financial engineering solution to increase stock prices and avoid delisting. In Sirius’s case, however, delisting is far from a reality.

The reverse stock split is actually related to the company’s pending merger with SiriusXM Liberty Group. After the completion of this transaction, which is scheduled for September 9, Sirius XM stock will undergo a 1-for-10 reverse split. I doubt that most investors actually understand the mechanics of the upcoming merger, but they incorrectly assume that Sirius is doing its reverse split from a position of weakness.

The merger with Liberty SiriusXM Group has been in the works for some time; was originally announced in December 2023. It’s no surprise to me that shortly after this offer was announced, Sirius XM’s price-to-earnings (P/E) ratio went into freefall. Plus, with a forward P/E of just 10.1, compared to 22.4 for the S&P 500, I’d bet investors aren’t too excited about the company’s growth prospects.

It appears that investors have soured on Sirius XM and do not see the company as a winning opportunity. But given its low valuation, steady cash flow and investments in new growth opportunities, I can actually understand what might have prompted Buffett’s conviction.

Investors looking for a potentially underpriced opportunity in an overall financially healthy company may want to follow Buffett’s lead and consider buying shares of Sirius XM before the reverse split takes place next month.

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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a board member of The Motley Fool. Adam Spatacco has positions in Amazon and Apple. The Motley Fool has positions in and recommends Amazon, Apple, Berkshire Hathaway, Snowflake and Spotify Technology. The Motley Fool has a disclosure policy.

4 Reasons I Think Warren Buffett Just Raised His Position in This Forgotten Stock by 262% by the Split was originally published by The Motley Fool