(FORTUNE Small Business) – High anxiety: were the name not already taken by the Mel Brooks classic, it would be perfect for the story of Hugh Panero and XM Satellite Radio. In the course of getting this space-based business up--quite literally up--and running, Panero, 47, has suffered a string of setbacks that would make even the most hardened entrepreneur shudder. In 1999, Panero's investors--he has raised $2 billion so far for his five-year-old startup--nearly walked. A year later his $200 million satellite suffered an aborted takeoff when an engineer misread a message on his computer screen, causing a two-month delay. Then Panero, who had planned to begin offering XM radio to the public on Sept. 12, 2001, had to postpone the launch in the wake of the 9/11 attacks. In the midst of all this turmoil, Panero's wife was diagnosed with leukemia. (She is now doing well.) Says the philosophical CEO: "We're a horse that runs well on a muddy track. In today's business environment you have to be able to deal with whatever comes your way. Nobody glides effortlessly to victory."

Panero certainly has a long way to go before he wins any roses. For fiscal 2003, analysts expect XM to lose $585 million on revenues of $90 million. The company, which has $457 million of cash on hand, is burning through about $60 million a quarter. XM is an unusual small company. Its revenues put it in a league with niche players like Green Mountain Coffee, but its capital expenditures are more in line with what a behemoth like Intel might spend on a semiconductor factory.

Yet before you write off this unique startup--one glitter-drenched in hype and promise--know that XM is showing signs of digging out and becoming the lead player in what analyst Steve Mather of Houston investment bank Sanders Morris Harris believes will become a $650 million market by 2005. In October, XM signed up its millionth customer, a bellwether that suggests the company is moving beyond early adopters and into the mass market. (By contrast, rival Sirius Radio has 261,000 subscribers.)

Driving XM's growth is its tight relationship with General Motors, which now offers the satellite radio service in most of its new cars, helping XM expand its subscriber base from 350,000 to an estimated 1.4 million in 2003. If the company can keep up this pace, Panero says, XM will be cash-flow positive by the end of 2004 and will post earnings by 2005. Wall Street, it seems, believes him. XM's stock has rebounded from a 2002 low of $1.66 to a recent price of $29 a share.

So what exactly is this pioneering new service? Think of satellite radio as analogous to satellite TV. Subscribers buy an XM-compatible radio for about $200 and pay the company a $9.99 monthly fee to receive its 101 radio channels. Because potential listeners spend ample time in their vehicles, often trapped in commutes and sales calls, cars are the most promising satellite radio venue (although the service also works in the home and office and even in boom boxes, as demonstrated in a clever TV ad in which an XM subscriber drives his car right up to his desk and pops the XM unit out of his dash and into his desktop stereo, missing only about half a bar of rap group Black Eyed Peas). The digital signal offered by XM's service is of higher quality than analog radio and is static-free. Because the signal emanates from satellites, a driver could cruise across the U.S. and pick up the same station everywhere.

Perhaps XM's biggest selling point is that in this era of homogenized, chain-owned, centrally programmed radio stations, it offers an abundance of often quirky programming choices. Channel selections include reggae, "women's music," a station dedicated to alternative country acts such as Uncle Tupelo, as well as news, sports, comedy, a station that demos unsigned rock bands, one that features classic radio dramas such as The Lone Ranger, and one that's all opera all the time. "You can't quarrel with the variety," says John Love, 44, president of W.E. Love & Associates, a trucking insurance broker in Burlington, N.C., and a fan of XM radio. Love receives XM in his Cadillac Escalade and has found that it offers something for everyone, including his wife and four kids, ages 4 to 17. The kids like Radio Disney and the top 20 channel, while Love prefers the '80s channel featuring Boston and ZZ Top. "You flip through cable TV, and it's garbage, garbage, garbage," says Love. "But there's something different about a music service. What my kids like is not what I like, but we all agree that XM is great."

For all its entrepreneurial swagger, XM was actually born in a boardroom. In 1997, American Mobile Satellite Corp. of Reston, Va., purchased some bandwidth auctioned off by the FCC. Pricetag: $90 million. (The government had enough bandwidth for only two national satellite radio players; XM has a single competitor: Sirius.) American Mobile Satellite--a provider of wireless services such as e-mail and messaging--placed five employees in a business incubator and handed them the following mandate: Consider the commercial possibilities of using that new bandwidth for satellite radio. They didn't have to mull the matter for long. Satellite radio struck them as extremely promising--so promising that they recommended it be spun off for development as a separate small business.

A year later the fledglings flew the incubator and started their own company, prosaically named American Mobile Radio Corp. (AMRC). During those early years their former parent company was their primary investor. The startup firm also needed to bring in a professional manager as CEO. In 1998, AMRC chairman Gary Parsons, one of the five founders, recruited Panero, a savvy native of the Bronx and a veteran of the cable TV wars, with experience at companies such as Time Warner (parent company of FSB) and TCI.

Panero maintains a kind of ironic tough-guy demeanor and prides himself on understanding the gritty aspects of business. Early in his career he took on the challenge of bringing cable service to New York City's outer boroughs. Lessons learned there shaped Panero into a manager short on theory and long on insight into the wants and needs of customers, employees, and shareholders. One of his first acts as CEO is illustrative. He renamed the company XM. "You've got AM, you've got FM, and now XM," explains Panero. "You don't want some long complex name. It had to be something that could fit on the button of a car radio."

The need for mountains of capital was a constant concern during XM's early days, and it remains a huge issue today. This is nothing like starting a hamburger stand: You can't simply hand-letter a sign, fire up a grill, and announce you're open for business. Before a single listener ever pressed an on button, satellites had to be launched and a high-tech broadcast center had to be built. Ultimately, XM would have to raise $2 billion, far beyond the means of its erstwhile parent. Thus was an unknown, zero-revenue company forced to court various deep-pocketed, name-brand corporations. As Panero terms it, "We were a frog kissing a lot of princes."

Through 1998 and well into 1999, XM worked to pull together a consortium of strategic investors including GM, Hughes Electronics, DirecTV, and Clear Channel Communications. XM's top executives placed almost daily calls to the various parties. There were constant demurrals: Hughes was not willing to ante up unless it knew that GM was going to put XM radios in its cars. GM wouldn't commit unless the Hughes brain trust felt satellite radio was a viable business. XM worked to nudge this uneasy consortium closer together. It came down to a weekend retreat in a Maryland suburb at a Marriott hotel, where Panero and Parsons assembled all the fractious parties. There were roughly 25 people present, including financiers, lawyers, and marketing specialists. Panero and Parsons moved from group to group, doing the satellite radio version of Kissinger's famous shuttle diplomacy. "This was a make-or-break investment," says Panero. "Running that gantlet was exhausting."

If a deal wasn't struck by midnight on June 6, 1999, some of the prospective investors intended to walk. In the final minutes Panero and Parsons sealed the deal and emerged with a $225 million commitment. The investors departed with what at the time represented a 60% stake in the company. The balance of the $2 billion necessary to launch the business was raised by XM's 1999 IPO and subsequent rounds of public financing. (Because of stock dilution, the consortium's stake has shrunk to 22%.)

The cash infusion allowed XM to press forward, ordering a pair of Boeing 702 satellites that it dubbed "Rock" and "Roll." Building them cost $200 million a bird, to use industry parlance. Rock's launch was uneventful, but not Roll's. On Jan. 8, 2001, the satellite was scheduled to go into orbit from a stationary platform, something like an oil rig, several thousand miles off the coast of California. The company responsible for putting the satellite into space was Sea Launch, a joint venture of Boeing and companies from Norway, Russia, and Ukraine. Panero stood by at Sea Launch's command center in Long Beach, Calif. He got to watch a closed-circuit broadcast of the proceedings, complete with announcers who provided color commentary. Suddenly a technician shouted, "Stop! Stop!" in a Russian accent. The countdown was halted with just 11 seconds to liftoff. "My heart was pounding. It was chaotic," recalls Panero, who ran around trying to figure out what had gone awry.

As it turned out, someone had simply misread a monitor and aborted the launch. But putting up a satellite is, well, rocket science. Roll had to be shipped back to Long Beach Harbor. Reports had to be compiled, instruments reset, and a whole lengthy prelaunch sequence had to be reinitiated. Incredibly, the miscue delayed Roll's launch by two months. Following the earlier, successful launch of Rock, while Panero and his wife were traveling home, she showed the first symptoms of what turned out to be leukemia. Treatment was successful, and the disease is in remission. But for Panero it meant that the stresses of XM's startup were compounded by a family crisis.

By mid-2001, XM had two satellites 22,500 miles above the earth, in geostationary orbit over the equator and tilted toward America, the better to beam the signals directly to radios. XM had also placed 800 repeaters in the top 75 urban markets. These are little dishes that boost signals in the concrete canyons of a New York City or Chicago. (The company continues to add repeaters, especially in locations that are experiencing signal interruption.)

During this time XM was also busy getting its broadcast center ready. There's no real blueprint for a satellite radio facility. XM simply decided to throw everything together under one roof: the executive offices, the DJs, and all the electronic gadgetry necessary to communicate with the satellites. To house it all, XM selected a circa-1918 brick building in Washington, D.C., that had once been home to National Geographic's printing presses. When Panero first visited, it was a shambles, with crumbling walls and broken windows.

He was unfazed. XM built 80 studios, allowing an armada of DJs to create simultaneous broadcasts. From the outset, Panero saw an edge in crafting distinct personalities for the various stations. Not only would XM offer music and other programming for a diverse listenership, but in Panero's vision it would also carry DJ patter aplenty. "I come from the cable TV world, so I was familiar with unsuccessful music-video channels such as the Box," says Panero. "They failed, I felt, because they didn't have DJs and were simply jukeboxes that couldn't connect with audiences emotionally."

Lee Abrams, a legendary figure in analog radio, was named chief programming officer, and to him Panero delegated the task of hiring DJs and shaping the formats of the various stations. As a consultant during the 1970s, Abrams had helped FM stations all across the U.S. switch from dentist-office Mantovani to rock groups such as the Rolling Stones and the Allman Brothers. XM also tapped jazz great Quincy Jones as a consultant.

At last XM was ready to go live. The plan was to premiere in two top-20 markets--Dallas and San Diego--that would be easier to operate in than, say, New York or L.A. XM would then roll out nationwide in a matter of weeks. But the day the service was to launch--Sept. 12, 2001--fell in the aftermath of a shocking event. From XM's broadcast center, employees could see smoke rising from the Pentagon. XM canceled its launch party, which was to include performances by Peter Frampton and Ziggy Marley. The company also immediately pulled its inaugural TV ad, based on the theme "falling stars." The ad featured rapper Snoop Dogg plummeting down from outer space and past an array of skyscrapers--an image eerily similar to what much of the world had just witnessed on the news.

Post-9/11, Panero called an emergency board meeting to consider shelving the service for a year. Clearly this was not the ideal time to launch an entertainment business. Then again, there were risks in waiting. Says XM chairman Parsons: "We'd have to lay off the DJs, then hope we could rehire them one year later. We would have to tell radio manufacturers to halt the product pipeline. Then, a year later, we'd have to say, 'Now we're serious. Crank up the factories.'"

Ultimately XM decided to push ahead, after a delay of only about two weeks. Slowing down was not an option, especially if the company hoped to maintain a lead over rival Sirius. So far it's worked. While XM had 1.4 million subscribers at the end of 2003, Sirius had only 261,000. Sirius, which was founded in 1990, went public nine years ago at $5, hit a high of $66.50 in 2000, and has been trading at around $3. For 2003, Sirius is expected to post losses of $239 million on revenues of $15 million. "We're 12 to 18 months behind," concedes CEO Joe Clayton. "But it's early in the race, and I do believe we'll narrow the gap."

So how has XM gotten ahead of Sirius, a company that once had a big headstart? Panero has made some smart moves, including the choice of radio chips. XM went with an existing design used by WorldSpace, a U.S. company that broadcasts satellite radio to Africa, Asia, the Middle East, and parts of Western Europe. XM simply adapted the chip design to the U.S. market. Also, XM was able to snap up about ten Motorola engineers with experience making chips for pagers. Subsequent iterations of the radio chips have been designed in-house, saving time and money and allowing XM to stay ahead in its product offerings.

One example is XM's popular $100 boom box. To be portable, a satellite radio boom box must run on batteries rather than direct current, and that requires a highly energy-efficient chip. Because XM's team developed a workable chip ahead of Sirius, its boom box hit the market sooner--by a full year.

Sirius farmed out the design of its chips to a division of Lucent Technologies. The division was spun off, resulting in interminable delays. That was one reason the Sirius board decided to replace founder David Margolese in 2001, says Jim Collins, vice president of corporate communications at Sirius. "The lesson is, Don't ever give the whole responsibility to a third party," says Panero. "That mistake allowed us to catapult ahead of our competitor."

Another canny decision on XM's part was to forge a tight bond with GM. The automaker not only is an investor (it owns 8% of the company) but also has offered XM radios in more and more cars each year. XM radios will be factory-installed in 43 out of 57 of GM's 2004 models. Typically car owners with XM hardware get a 90-day free trial of the satellite service, and according to GM, 75% of auto buyers convert to paying customers. (About half of XM subscribers get their hardware through new-car purchases rather than buying it separately.) For GM, whose customers skew older than those of many of its competitors, the product is a major differentiator. GM's data show that younger buyers are more likely to tout XM to family and friends. "It's a perfect marriage," says Rick Lee, executive director of satellite radio services at GM.

XM radios are also available factory-installed in some Honda and Acura models and as a dealer option in a variety of other cars. None of these companies has committed to the same degree as GM. As for Sirius, it has deals with BMW, DaimlerChrysler, and Ford, among others. But it has negotiated far fewer of those all-important factory installations. Instead Sirius radios tend to be a dealer option. Of course, it's so early in the game that any edge could prove ephemeral. If GM continues to have success selling cars with XM, you can expect Ford to step up its relationship with Sirius.

Ultimately, the battleground for the two competing services will be over content. To employ a cable TV analogy, think about the difference between HBO (original programming such as The Sopranos) and Cinemax (exclusively movies). Subscribers tend to choose one or the other, based on their interests. Already XM and Sirius have adopted separate identities. XM--true to the vision of Panero and programming chief Abrams--has worked hard to create DJ personalities and craft distinct identities for its music channels. Tune into the '60s station, for example, and you might hear Phlash Phelps, who employs a kind of Rip Van Winkle shtick in which he pretends that the decade is still unfurling. Phelps will

cue up "Love Me Do," say, while asking listeners if they've heard that the Fab Four are planning a concert at Shea Stadium. "Content drives everything," explains Abrams. "We don't just want listeners; we want to create fans."

"I don't think anyone cares about a DJ's sex life or what club they went to the night before," counters Sirius's Clayton, "but our DJs certainly have personalities." Sirius, which charges $12.95 a month, offers music aplenty--60 channels--but so far appears to have put less emphasis on developing on-air personalities. At the same time, Sirius has made sports programming a priority--no surprise, given that many of its executives, including CEO Clayton, were associated with DirecTV during its early years. DirecTV carved out a niche by broadcasting to national audiences a full ticket of football matchups. XM does carry sports, including a channel for NASCAR, but Sirius holds the lead. It has inked deals to carry 40 NBA games a week, as well as NFL games. Many close observers of the satellite radio market see this as a savvy strategy, particularly given that sports are a proven way to draw early adopters (who tend to be men) to new entertainment technologies. "Sports can be a real draw, right up there with porn," says Laura Behrens, an analyst with GartnerG2, a Stamford, Conn., research and consulting firm.

Until quite recently Sirius's other major distinction was that it's the only commercial-free service. "People do not like commercials," says Clayton. "We plan to hold the line because we believe it's what consumers want." Apparently XM agreed, because it announced in January that it will be switching over to a commercial-free format. XM has 70 music channels, many of which were running commercials. On average, XM channels that featured ads were carrying two minutes of commercials per hour--but no longer.

Firing off another salvo in the content battles, XM will introduce traffic and weather channels this year. It will broadcast a channel set aside exclusively for traffic and weather in Baltimore, for example, another for Phoenix, and so on. The plan is to roll out the service in 15 metro markets this spring. XM also gets credit for being first to crack the airline market: The company announced that both JetBlue and AirTran will offer its service on flights.

However the content wars evolve, XM also faces competition from conventional AM/FM stations. While satellite radio can reach a national audience, analog will always have the advantage of being able to offer local news and local personalities. AM/FM will start to further cut into satellite's advantage as more analog stations begin offering crisp digital signals. The switchover is being driven by iBiquity Digital, a hardware maker based in Columbia, Md., that expects to have converted 600 of the nation's 13,645 stations by the end of 2004.

Now, throw into this competitive environment the potential for more unhappy surprises. It turns out that XM's satellites, Rock and Roll, are defective, and their signals are degrading much faster than anticipated. Typically satellites have a useful life of ten to 15 years. XM will get about half that out of its two. The plan is to move Rock and Roll together in space, combining their diminishing signals into a single strong one. Then XM will launch its spare (yes, you always need a spare). But ultimately the company will have to launch another new satellite and build a fifth to serve as spare. The satellites are insured, and XM has filed a claim--the same as if a house burned down, only with a whole lot more zeros. The company expects to be made whole. Should the claim be rejected, XM has set aside monies to build and launch new satellites. But that would further delay XM's march to profitability.

What keeps Panero smiling through his troubles is the staggering upside potential of satellite radio. There are 200 million cars and light trucks on the road and three million heavy trucks on the highways, as well as four million boats over 22 feet long (the size that makes sense for satellite radio). Next contemplate the market for U.S. households--100 million strong. Add the growing Hispanic market--XM and Sirius already have Spanish-language channels. According to a back-of-the-envelope calculation by analyst Steve Mather, XM and Sirius could in the long run capture about 40 million U.S. subscribers between them. Next stop? XM may enter Mexico and Canada.

Most analysts think there's room for both Sirius and XM in the market, but believe XM, because of its lead and the quality of its management team, will continue to dominate. "There may be some volatility along the way," says Mather, "but XM is going to grow into a relevant and significant radio player. The stock is going to be a winner."

Lately the stock has been on a tear, climbing roughly 75% in the last quarter of 2003 to a recent price of $29 a share. Given the risks, nobody should confuse this with a get-rich-quick scheme. But Panero, who holds 573,000 shares worth $17 million, could end up very happy. "We plan to tough it out," he says. "We have a team that has a lot of character because we've faced a number of crises together. Adversity is a great teacher." And a good thing. What Panero has learned so far should come in very handy for the wild ride ahead.