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TMF Interview With CD Radio Chairman and CEO David Margolese
December 1, 1998

With Yi-Hsin Chang (TMF Puck)

Satellite-to-car radio broadcast company CD Radio (Nasdaq: CDRD) plans to offer 50 channels of commercial-free music and 50 channels of all-news, all-sports, and all-talk programming to motorists throughout the continental U.S. for $9.95 a month. The company aims to commence service in April 2000. Three satellites are scheduled for launch starting late next year.

TMF: First of all, what is the status of the construction of your satellite radio broadcasting system?

Margolese: On time, on budget. We are building four satellites. We are launching three of them beginning with the first in November of next year, 1999, and the second in December 1999, and the third in January 2000, commencing operations in April of the year 2000. We're keeping the fourth satellite on the ground as a spare. The construction of the system, as I said, is on time and on budget.

TMF: You compare CD Radio to cable TV 20 years ago, but both cable TV and radio are local businesses. How will you penetrate local markets from a national perspective?

"What we exist for is to provide programming that conventional radio broadcasters are unable to provide to the public simply because they are, in fact, local."
Margolese: We're not attempting to do what conventional radio does, which is serve, as you correctly noted, the local market and serves it quite well. What we exist for is to provide programming that conventional radio broadcasters are unable to provide to the public simply because they are, in fact, local. And as a result of being a local business, conventional broadcasters are unable to generate critical mass in a variety of programming formats, whereby they can serve niche markets on a local basis economically.

As a national satellite broadcaster, we aggregate our markets nationwide, and those niche markets become serviceable economically, and so we can provide services to niche markets that cannot otherwise be served locally throughout the country. Additionally, it's important to note we're not an either or, but rather represent a complementary service to AM/FM radio. You'll still be able to receive local radio. The satellite radio button simply gives you an additional option. It doesn't take anything away.

TMF: Now this offering of 100 channels, is that expandable later on?

Margolese: A hundred is about it.

TMF: What makes you think people will be willing to pay for radio programming?

Margolese: The fact of the matter is that people pay for this service today in the home market. It's available delivered over certain cable systems in this country. There are about 18 million households in the United States that have access to this service delivered over cable into their home stereo. Of those 18 million households, there are close to 600,000 of them that are paying approximately $10 a month for this service right now. So we think that that's a strong indicator. If people are paying for this service right now in what is a secondary market for radio as opposed to a primary market like the car, we don't think that there's an issue with respect to people paying for the service.

TMF: It seems like one of the great things about this service is that you can get the signals no matter where you are in the continental U.S., and so you're not searching for new stations as you drive long distance. Are you thinking then that long-distance drivers are prime candidates for this service?

Margolese: Yes, certainly people that outdrive their signal are prime candidates for this service. People that live in areas where they don't have access to a decent variety of signals are prime candidates for this service. Even people living in more urban areas, we think, are prime candidates for this service insofar as anybody that is unable to receive the type of programming in terms of format or genre that they are interested in listening to on their radio is, we believe, a prime candidate for this service.

As we said earlier, because radio is local, the conventional stations are unable to provide service below a certain threshold in terms of listener taste. And it turns out that about 25% to 33% of all listener tastes in this country is not served by conventional radio on a local basis just because it's not economical to do so.

One of my favorite examples of that is reggae, for example. In the largest market in the United States -- the New York market -- you don't have a full-time reggae station. In a major market like Detroit, you don't have a classical station. It's not that there aren't reggae listeners in New York City or classical music lovers in Detroit. The problem is that there aren't enough of them to justify full-time stations for either of those formats and either of those markets. And if you add up all the situations like that, it turns out that about a fourth to a third of all listener tastes in this country simply isn't broadcast over the air in most, if not almost all, markets.

"We think that once you experience commercial-free programming, it will be hard to go back to the old standard, which is obviously commercial-laden programming."
So that's the reason that we exist -- to fill that hole. If you're able to obtain, in terms of taste in programming or the signals available to you, if you're able to obtain what you want over the AM or the FM bands, then you're satisfied, and that's fine. If you are, however, in the one-third of society that is not able to obtain what they'd like to be able to listen to -- either because the signal doesn't reach them because of where they live or where they drive, or the broadcasters in their market are not able to serve them because economically it's just not viable to do so -- then we're your alternative.

TMF: It seems like one of the great things about it, too, is the fact that it's commercial-free. Will you be getting your revenues strictly from the monthly subscriptions? Are you charging, say, Bloomberg or other networks, simply to be one of the channels, or is it the other way around?

Margolese: The commercial-free aspect of the service, we think, is a value-added feature that people, once they experience, will come to appreciate more and more. We think that once you experience commercial-free programming, it will be hard to go back to the old standard, which is obviously commercial-laden programming. But initially we see that as something that's value-added. It's not the primary reason you're going to subscribe to the service.

The primary reason you're going to subscribe to the service is to be able to hear what you cannot otherwise hear and are interested in listening to. The only way today you can hear what you're interested in listening to if conventional radio is not providing it is with CDs or tapes. And the fact of the matter is that most people, while they have a CD player or a tape deck in their car, don't use them on a regular basis for a variety of reasons -- they're a hassle, they're costly, you're sick of the CDs and tapes that you accumulate in your glove box, and so on. It's not fresh, it's not spontaneous. People just basically do not use their CD players or tape decks on a regular basis in any meaningful way. Most people don't.

So there's a gap there, there's a hole in terms of what many people would like to listen to and what is available on radio. So, as I say, the primary reason for subscribing to this service is to be able to hear what you cannot otherwise hear.

As far as the Bloombergs and the non-music portion of our programming -- our channels that will have advertising on them -- we are not paying for those content providers to broadcast on our systems. We are simply revenue sharing 50-50 with them on the commercial part of that programming.

TMF: You received one of two federal licenses for satellite radio broadcasting. The other, I believe, went to American Mobile Radio Corp. [a unit of American Mobile Satellite Corp.]. Are you worried about the competition?

Margolese: No. We think that in any new market where 100% of society is not yet subscribers to satellite radio, the opportunity is far larger than looking at the other guy and saying in year two or year three, "Oh, now I need to figure out how to capture a piece of your market share." Whatever our market penetration is in year two or year three and our competitors' market share is in year two or year three, it will be in both of our interests to look at the other 90-whatever percent of the public that are not yet subscribers to our service and focus on that opportunity rather than looking at each other.

TMF: Will the government issue additional licenses as the market becomes more mature?

Margolese: We never say never. We have publicly said now for some time that it is difficult for us to foresee a third entrant into the market through whatever means until such time as the market for the service is proven. In other words, we're out there, and we prove that the market can accommodate a third entrant, and at that time whatever third entrant might wish to enter the market, assuming they exist, would need to go through financing at that point and then would need to construct their satellite system, which takes several years.

We have always said that we find it difficult to envision a third entrant into the market prior to about four or five years of us being operational. And so if in fact that does happen at that point in time, it will mean that the market can support a third entrant, and we view that as something that shouldn't materially impact our valuation.

TMF: How do you plan to promote this service nationwide?

Margolese: With a full-scale, multi-faceted, close to $100 million advertising and marketing campaign annually, which is a very large dollar number. It's actually about what Federal Express spends every year, or Direct TV. So they manage to make virtually everybody and anybody out there aware of their products and services, and we think we'll be able to do the same.

TMF: Speaking of money, one of the risks that is outlined in the warning about forward-looking statements is that the company has a need for substantial financing. How much money do you need, and how do you plan to raise the financing?

"Our addressable market is 200 million cars and light trucks, and we need approximately 1 million subscribers in order to go EBITDA positive."
Margolese: We are a $960 million cap ex [capital expenditure] project at this time, and we've announced financings to date of $900 million, and about half of that is equity and half of that is debt.

TMF: And that $100 million you mentioned as far as advertising is included in that $960 million?

Margolese: No, the advertising is something that is spent once you're an operating company, and we anticipate once we're an operating company that we'll establish bank lines [of credit].

TMF: Where do you hope to be two years from now, in late 2000?

Margolese: Operational. (Laughter.) With the American public beginning in a meaningful way to understand what satellite radio is, just as it did three or four years ago with satellite television.

TMF: How long do you think it will take people to absorb it and make it a part of their daily lives?

Margolese: Not that long. One of the things that we note in our market research is that people understand the service. When the service is described to people -- and we've conducted market research with about 10,000 consumers now -- people very, very quickly tell the moderator of the market research, "I got it, I get it. It's like cable." So we think it's a fairly easy concept to communicate. Most people see it like cable and get it pretty quickly.

TMF: Is there anything else you'd like to add?

Margolese: I think the most important thing that we have historically focused on when evaluating our business model is really two data points. Data point number one is that the service exists today in a marketplace that is inferior to the marketplace which we will operate in. The service is delivered today into the home market over cable systems where it is paid for and does enjoy approximately a 3% penetration, and the home market is not a primary market for radio listening, the car market is. We've said this many times over the years. Radio is to the car what television is to the home.

So, (A) service exists in an inferior marketplace to the marketplace we will operate within. (B) our anticipated penetration of the marketplace required to achieve cash flow breakeven is about one-half of 1% of our addressable market. Our addressable market is 200 million cars and light trucks, and we need approximately 1 million subscribers in order to go EBITDA [earnings before interest, tax, depreciation, and amortization] positive. So I think that if you had to boil our business plan down to something that was communicable in 30 seconds, I think it would be those two data points.

TMF: Great. Thank you so much for speaking with us today.

Margolese: Thank you.

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