XM Sirius merger and the FCC

[Randall]

They may need to open up new licenses for competition. Perhaps broadband radio of some sort would work.

 

"Federal Communications Commission staffers agreed to examine the $13 billion merger of XM Satellite Radio Holdings Inc. and Sirius Satellite Radio Inc., though a key agency official acknowledges that it will be a difficult review.

 

"The hurdle here, however, would be high as the commission originally prohibited one company from holding the only two satellite radio licenses," said FCC Chairman Kevin Martin in a statement.

 

The two satellite radio operators agreed on Monday to combine.

 

Martin is referring to the Satellite Licensing Order the agency adopted in 1997 when it issued satellite licenses for XM and Sirius. As part of the order, the agency prohibits one entity from owning the two satellite radio licenses. According to the order, the "prohibition on transfer of control will help assure sufficient continuing competition in the provision of satellite service."

 

But Martin appeared to indicate that he would consider removing the prohibition. "The companies would need to demonstrate that consumers would clearly be better off with both more choice and affordable prices," he said in his statement.

 

In a meeting with reporters in December, Martin pointed out that the only similar merger review the agency ever considered was the 2002 attempted combination of the two satellite television companies DirecTV and EchoStar Communications Corp.

 

The agency rejected that merger combination, arguing that it would reduce paid-TV competition in the most rural markets from two to one. It would have also reduced competition from three to two in larger markets. It was the only major transaction the FCC has rejected to date during the Bush administration.

 

"The only other things I have said about this publicly is that the analogous situation when you're looking at satellite radio is looking at what happens to satellite TV side," Martin said. "When DirecTV or EchoStar merged it was before News Corp. got involved. The commission argued that the merger of those two would not be in the public interest."

 

Though new paid-TV competition that is emerging from phone companies as well as other competition could make a XM-Sirius deal possible.

 

"We think that as new forms of competition, such as wireless music and video services, penetrate the market, the likelihood of approval rises," wrote Blair Levin of Stifel, Nicolaus & Co. in a Feb. 2 report.

 

Levin, a former FCC chief of staff, believes the Department of Justice would be more likely to approve a transaction than reject it. "If DOJ cleared it, we think it would be difficult for the FCC to reject it, though it could well ask for conditions on local content, indecency and pricing," he wrote.

 

Some satellite radio critics expressed surprise at the announced combination and noted the agency's rejection of the EchoStar-DirecTV transaction. "Given the government's history of opposing monopolies in all forms, NAB would be shocked if federal regulators permitted a merger of XM and Sirius," said National Association of Broadcasters spokesman Dennis Wharton. "It bears mentioning that regulators summarily rejected a similar monopoly merger of the nation's only two satellite television companies."

 

Sirius would pay $4.6 billion in stock for XM's shares and Sirius' CEO, Mel Karamazin, will retain that position at the new company. XM's Gary Parsons will become chairman.

 

The satellite radio broadcasters have been jockeying for position by hiring celebrity hosts. Shock-jock Howard Stern marked his first year on Sirius in January, and XM's on-air talent includes Bob Dylan. Analysts had anticipated a possible merger.

 

"We think that both XM and Sirius believe a proposed merger could likely pass the regulatory hurdles, which we think would push them to attempt a merger," Robert Peck of Bear, Stearns & Co. wrote Friday in a note, which estimated the synergies in such a deal at $6 billion to $7 billion.

 

Peck suggested that calculating the share in ownership of the new company had slowed deal talks.

 

"Due to a closing window of opportunity (based on how long we think it would comfortably take to close a potential deal), we think investors would implore the boards of both companies to avoid quibbling over a few share points, to capture the much larger value of overall potential synergies," he wrote.

 

In the merger structure announced Monday, each shareholder base would hold 50 percent of the new company. XM investors will receive 4.6 shares of Sirius common stock for each share they hold, worth $17.02 per share based on Friday's close. That's 22 percent higher than XM's closing price of $13.98 Friday.

 

Karamazin presented the deal against the broader backdrop of changes in entertainment and communications, calling the union "the next logical step in the evolution of audio entertainment," in the Monday statement. The larger framework may have great significance for regulators.

 

Sirius added 2.7 million net subscribers in 2006, bringing its total to more than 6 million. The surge represented an 82 percent gain in the New York company's subscriber base. The company also said the fourth quarter was its first of positive free cash flow.

 

XM's subscriber count stood at more than 7.6 million at the close of 2006. The Washington broadcaster posted positive cash flow in the fourth quarter.

 

Morgan Stanley is financial adviser to Sirius, which retained Simpson Thacher & Bartlett LLP and Wiley Rein LLP as counsel.

 

J.P. Morgan Securities Inc. advised XM while Skadden Arps, Slate, Meagher & Flom LLP, Jones Day and Latham & Watkins LLP are XM's lawyers.