Sirius XM Holdings (NASDAQ: SIRI) has had a difficult year. Over the past 12 months, shares have lost nearly 60% of their value. But the valuation has arguably gotten way too cheap, causing one legendary investor to plow billions of dollars into Sirius XM stock.
Could this be the high-potential growth stock your portfolio has been waiting for? There are two reasons in particular to get excited.
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1. The valuation is too cheap to ignore
Across nearly every metric, Sirius XM stock looks cheap. Its price-to-sales multiple has been cut by more than half over the last 12 months. On a free cash flow (FCF) basis, the stock now trades with an FCF yield of more than 10%. Meanwhile, its dividend yield has crept up to nearly 5%, aided by the declining share price. The shares are cheap for a reason. But they are undeniably cheap, especially when compared to their recent past.
SIRI PS Ratio data by YCharts.
Sirius XM is dealing with a problem that most growth stocks fear: Declining growth rates. Revenue has actually dipped in recent quarters as the company sheds subscribers. Last quarter, subscriber revenue -- which makes up around 75% of total revenues -- declined by roughly 5%.
The issues are many, but competition is the most obvious factor. There are now many music streaming services available at the touch of a button. And due to pervasive 5G networks, there are few places where people can't access alternative means of entertainment, especially when you factor in the ability to download media offline to play at a later time.
With the exception of last quarter, however, Sirius XM remains profitable. It's also still generating tons of free cash flow, as evidenced by its 10%-plus free cash flow yield. Thus far, management has used this cash to pay a rising dividend and buy back billions of dollars in stock. Continuing to maintain these two programs should be possible. But at some point, the company's focus may have to shift more toward advertising, and perhaps reinventing itself.
That's a risky business model to bet on, one that is facing increasing competitive pressures that have become so strong that its revenue base has begun to decline. But the valuation has arguably already priced these risks in, and at least one famous investor is willing to bet on a turnaround.
SIRI Revenue (TTM) data by YCharts.
2. Warren Buffett is a big fan of Sirius XM stock
Warren Buffett is not known for his poor investing. In fact, he's spotted many bargain stocks over the decades, well before the market realized that a turnaround was possible. Could Sirius XM be next? According to the most recent filings, Buffett's holding company now owns nearly 30% of Sirius XM stock -- a stake worth roughly $2.4 billion.
Why are Buffett and company so bullish on Sirius XM stock? They're likely well aware of the competitive pressures and revenue declines. They're also likely well aware that shares trade at just 7 times forward earnings. This just looks like a classic value play, betting that the odds of a turnaround multiplied by the upside potential of such a turnaround will greatly outweigh the downside risk.
I'd have to agree on that point. At 1 times sales, Sirius XM stock is the cheapest it has been in more than a decade. The 5% dividend yield and ample free cash flow won't be disappearing anytime soon, even if revenue continues a slow decline. So even if the company gradually shrinks, it could generate enough free cash flow to cover the stock's measly valuation.
However, there is another possible future that would have me nervous as an investor. Sirius XM management could opt to spend billions on a new acquisition, or on a new marketing effort to reinvent itself. In my view, the competitive landscape is simply too strong to justify these maneuvers.
Investors would be best served, then, by having as much of the business' free cash flow diverted to them in the form of share buybacks or additional dividends. I'm guessing that's why Buffett and company believe shares are a buy, but the potential risk has me sticking to the sidelines.
Should you invest $1,000 in Sirius XM right now?
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Ryan Vanzo has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
