Most Wall St. observers now think that the merger between Sirius Satellite Radio (SIRI) and XM Satellite Radio (XMSR) will go through. The FCC, pushed by some members of Congress and the radio industry, may insist on a cap for subscription fees so that the new company cannot use its "monopoly" status to jack up rates. But, increasing subscriber fees may be necessary to the success of the venture.
Both Sirius and XM carry debt loads well in excess of $1 billion. XM recently refinanced part of its debt, and was forced to pay a high interest rate because the company does not make money and because of existing leverage already on the balance sheet. The question now is whether satellite radio will ever be a good business at all. Subscription growth at both companies has slowed considerably. These companies rely, to a large extent, on new car sales to drive subscriber additions. The troubles in that industry are already hurting both companies. On the cost side of the ledger, the talent used to draw new listeners, talent like Howard Stern, is remarkably expensive.
One of two scenarios seems probable if the Sirius merger with XM goes through. The less likely one is that debt and lack of earnings will drive the combined company out of business or force it into some form of insolvency. More likely, the company will be so hampered by debt and slowing growth that it will lose much of its ability to market its products, launch new versions of its technology, and sign up pricey talent.
The competition for the satellite radio market is, to some extent, already in the field. Challengers are almost certain to become greater in number and more advanced in terms of technology and access to talent.
So, who wins if satellite radio loses?
At the top of the list is Apple (AAPL). The fact that the iPod can be wired into a car sound system has probably done Sirius and XM real harm already. But, an iPod cannot receive a live signal. That "live signal limitation" may change with some minor adaptor alterations, and it seems likely that Steve Jobs & Co. will use this technology has an opportunity to sell more premium iPods, iTouch, and iPhones. The new 3G iPhone has the potential to solve this reception problem very simply. Live broadcasting of both talk radio and music over the AT&T (T) wireless broadband network would allow an iPhone to mimic almost all of the features of satellite radio. It would have the disadvantage of only working where the AT&T network operates. That means that truckers in Montana would be out of luck. But, for the huge majority of the population who live in and around cities this will not be an issue.
Verizon (VZ), AT&T (T), and Sprint (S) could all be big winners. They usually lose money on the phones they offer with their wireless service packages, and have to make that back by collecting fees for voice and data service. But, wireless phone markets are beginning to get saturated, especially in the US where most people have handsets. Being able to offer live music and talk for an additional fee could be the new driver of additional revenue for cellular providers. If Sprint (S) can gets its 4G WiMax network to market, additional bandwidth would allow it to get into broadcast TV, a business that the satellite radio companies have been experimenting with for three or four years.
Nokia (NOK) has begun the business of providing content and software to consumers who use its phones. Margins on handsets are dropping due to price competition and the percentage of phones Nokia sells in markets like China where many phones are sold at low prices. Nokia recently launched its own music store in the hope of competing with Apple’s iTunes. Offering live channels of music or talk "radio" might give it some chance to pick up market share.
Citadel Broadcasting (CDL) broadcasts several popular shows including Imus and Rush. The radio station owner would have to provide these stars with additional income, but it may be able to set up a transaction to "rebroadcast" these shows live and sell commercials on the network. The radio industry needs something to get it out of its slump. This might be it.
Qualcomm (QCOM) has created a system called MediaFlow which is set up to stream multimedia content. MediaFLO is the platform invented specifically to bring broadcast quality video to mobile efficiently and cost effectively. There is no reason that the system could not be used for HD audio channels as well. The additional benefit of this system to Qualcomm is that for the programming to work, each mobile device has to have a Qualcomm chip inside.
Other WiMAX chip makers such as Broadcom (BRCM) and Marvell Tech (MRVL) could also be winners. In fact both have been the beneficiary of Apple’s consumer electronics initiatives in recent years. The companies have also made patent case headway (Broadcom against Qualcomm legal disputes in Broadcom’s favor). Qualcomm chips are the brains of many phones and Broadcom in moving in on the market. Adding strong multimedia reception features to BRCM chips could improve its market share.
There is another group of providers that could benefit from an increase in wiress traffic. Cellular tower operators such as American Tower (AMT) and Crown Castle International (CCI) would almost certainly have more bandwidth and more digital transmission business as a result of satellite radio being replaced by cellular music and talk channels. These benefits would likely be gradual as new devices or new cell phones catch up to the demand for customized or alternatives to terrestrial radio. A more leveraged and smaller player in the sector is SBA Communications (SBAC). While these tower companies will benefit if satellite radio fails, it won’t be overnight.
The next obvious winners are companies which owns music distribution platforms. The first company that benefits will be Realnetworks Inc. (RNWK) for its Rhapsody network. The new roll-out has more device-neutral products than Apple’s iTunes offers and may make Rhapsody attractive to a number of new carriers which would market its content. This would be a huge opportunity for the company. The second-tier beneficiary here is a much more leveraged Napster Inc. (NAPS). Whether or not the company can compete in any environment has yet to be proven because of a history of trial, errors, and misses.
Would it be reasonable to discuss the potential demise of satellite radio in the U.S. and Canada and who would be the beneficiaries without discussing the International markets as well? WorldSpace, Inc. (WRSP) is the most significant provider of satellite radio outside North America. The company offers multi-language satellite radio broadcasts in parts of Asia, and in parts of the Middle-East and Africa. The failure of a Sirius/XM merger would not bode well for this company. Its balance sheet is even weaker than those of SIRI and XMSR. Any real competition in its markets would destroy it.
SIRI and XMSR will almost certainly be able to get financing of some sort, and it could come in the form of a rights offering or some other direct method. The terms are the big issue here, particularly when investors consider that existing creditors would be able to have a major say in what these financing terms will be. The longer that takes, the better it is for potential competition..
Douglas A. McIntyre and Jon C. Ogg
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