Siri

Source: Sirius XM

Sirius XM Holdings (NASDAQ:SIRI) came out on the losing end of a $3.8 million settlement late last week, but the satellite radio provider could have a bigger problem on its hands. 

A consortium of state attorney generals announced on Thursday December 4, 2014 that Sirius XM will be penalized for its billing practices, compensating subscribers and ex-subscribers in 46 states as well as the District of Columbia. Sirius XM is accused of misrepresenting cancellations, tricking customers into automatic renewals after low introductory rates, and failing to provide timely refunds. 

The sum isn't much. Sirius XM expects to generate $1.12 billion in free cash flow this year. Shelling out $3.8 million to disgruntled members -- and offering up refunds -- isn't going to break the bank. However, the problematic aspect of the settlement is that it leads one to believe how honest the platform's retention rate has been in the past. 

Sirius XM's self-pay monthly churn rate has been clocking in between 1.8%-1.9% lately. Sirius XM loses nearly 2% of its subscribers in any given month. Sirius XM's churn rate was as low as 1.4% nine years ago, but the push for mainstream audiences and the gamut of in-car audio entertainment options have pushed the monthly churn to 1.9% in its latest quarter.

Investors now have to wonder if the churn rate was kept low as a result of its questionable marketing tactics. Sirius XM claims that it has already addressed the misrepresentations, but it's telling that the timeline of the settlement offers refunds for those unfairly charged between July 28, 2008, and Dec. 4, 2014.

The move also stings Sirius XM's reputation. If you're one of its 26.7 million subscribers aren't you going to think twice the next time that you're up for renewal? If you're a potential subscriber is this the kind of story that lingers in the back of your mind, leading for you to pass on the premium radio service?

Terms of the settlement will include notifying subscribers with upcoming automatic renewals for plans lasting longer than six months and revising the procedures to make it easier to cancel. Customer service reps will not be rewarded based on retention, alleviating one of the loudest complaints in cyberspace about Sirius XM's customer service interactions. These pro-consumer moves could very well lead to an uptick in cancellations, and we will see how that all plays out in the coming quarters. It wouldn't be a shock if monthly churn starts working its way north of 2%. 

Growth is already slowing at Sirius XM. Its top-line gains have gone from 13% in 2012 to 12% last year. Guidance points to revenue growth of 9% this year with Wall Street eyeing 8% next year. There have been two price hikes over the past three years, and Sirius XM's pricing elasticity will be tested as cars make it easier for smartphone owners to stream online content through their dashboards. 

Sirius XM is doing the right thing by its customers in settling here. The real question is if it will be doing right by its Investors by the time we see the true flow of subscribers as Sirius XM lives up to its end of the settlement.  

Rick Munarriz has no position in any stocks mentioned. The Motley Fool owns shares of Sirius XM Radio. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.