Analyst to XM, Sirius: Quit Quibbling


A Bear Stearns analyst says merger talks between the satellite radio operators are hung up on control issues, not regulatory hurdles

Federal regulators aren't likely to block a combination of the nation's two satellite radio operators, XM and Sirius, but disagreement over how to split control of a combined company is probably slowing matters, a Bear Stearns (BSC) analyst wrote Feb. 16, urging the companies' shareholders to press the issue.

In other words, enough with the quibbling and just work it out, analyst Robert Peck suggested in a widely read report that sent XM Satellite Radio (XMSR) shares surging 7.7%, to $13.98 on the Nasdaq. Shares of rival Sirius Satellite Radio Holdings (SIRI) gained 2.8%, to $3.70, just above their 52-week low of $3.50, reached late last year.

Closing Window

"We continue to believe that XM and Sirius see the synergies provided in a merged entity," Peck wrote. "We further believe that both sides think it is feasible to have any proposed transaction gain approval from the FCC and [Justice Dept.]. However, we think the window of opportunity continues to close." That window, Peck says, relates to a likely 15-month period for reviews and approvals. A proposed deal would need to be announced by the end of March to close by mid-2008, when politicians go on vacation and then return for campaigning. (Bear Stearns analysts are compensated by revenue generated from business like the firm's investment banking services.)

Chatter over such a deal began last summer and reached a crescendo Jan. 10 when Citigroup (C) analyst Eileen Furukawa issued a research report suggesting that top executives at XM seemed more open to a merger (see BusinessWeek.com, 1/10/07, "Wedding Bells for XM and Sirius?"). Before that report, executives at both XM and Sirius had made comments that struck many people as warm to such a transaction. "So what's holding up a deal?" Peck asks. Most likely, the economics of how to structure the new company and who controls what, he said.

In all likelihood, Sirius Chief Executive Officer Mel Karmazin wants to be in the driver's seat of any such deal. As does XM's chief, Hugh Panero, who sees his company in a stronger financial position, with firmer ties to original equipment installers, and boasting a higher stock price. Peck says both companies are likely to increase their revenues at the same pace through 2013, with XM maintaining a slight lead.

Divvying Up the Pie

XM most likely wants a majority share, anywhere from 55% to 60% or more, according to the report. "Herein lies the conundrum and potentially the reason as to why we haven't seen much public progress on a potential merger," Peck notes. In any such deal, a 10% ownership stake amounts to about $700 million if the synergy value of a combined entity is pegged at $7 billion, as Bear Stearns models the deal. "However, while this is a significant sum, we believe the opportunity cost of letting a deal slip through both companies' fingers is the greatest risk," he wrote.

To be sure, most analysts see numerous financial reasons to like a combined XM-Sirius: operational efficiencies, higher revenues, deep cost cuts, and more pricing leverage with equipment and automakers. And, as Peck notes, integrating the technologies would be a difficult but not insurmountable obstacle.

Some Analysts Skeptical

"Clearly the environment has changed—but has it changed enough to warrant a merger that might still be seen as anti-competitive?" Standard & Poor's Tuna Amobi said in a telephone interview Feb. 16. "The companies might be open to talking about a merger, but getting it through is the harder part. I think a deal is unlikely." (S&P, like BusinessWeek.com, is owned by The McGraw-Hill Companies (MHP).)

Still, XM might be under increasing pressure to open itself up to the idea of merging with Sirius, Stanford Group Company analyst Frederick Moran pointed out. XM netted 442,000 new subscribers during the fourth quarter of 2006, while its rival netted 900,000 adds. Moran downgraded XM to hold from buy on Feb. 15, while keeping Sirius at buy. "There clearly remains a chance of a merger announcement. But getting regulatory approval could prove difficult," Moran says. "Our call is that you'll get just as much appreciation from a merger announcement by playing it through Sirius." Moran thinks such an announcement could probably drive Sirius shares toward $5 apiece and XM toward $20 per share.

Ryst is a reporter for BusinessWeek.com in New York. With Justin Bachman in New York.

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