Wall Street hears satellite radio fears

Warnings of competition cause stock drop for Sirius, XM

Sirius CEO Mel Karmazin has been telling government bureaucrats for more than a year that the satellite radio industry faces massive competition from iPods and other digital music technologies.

It still is unclear whether or not the majority of commissioners at the FCC have gotten Karmazin's message, but Wall Street certainly did Thursday, causing shares of Sirius and XM to plunge 12.4% and 17.1%, respectively.

Until Thursday, it seemed that investors were dismissing Karmazin's frequent remarks of looming competitive threats as political posturing designed to quell fears that a Sirius-XM merger would be monopolistic.

But a note from Mark Wienkes of Goldman Sachs expanded on Karmazin's thesis Thursday, and Wall Street didn't like the analyst's conclusions -- in particular that younger consumers might prefer their own digital music players to satellite radio.

Based in large part on weak demand for satellite radio at the retail level, Wienkes slashed his target price on shares of XM from $11.50 to just $6.50 and on Sirius from $2.25 to $1.75. And if the FCC does not approve the Sirius-XM merger, then the potential for synergies disappear and Sirius shares could fall to $1, the analyst predicted.

The unusually bearish analysis sent XM shares reeling $1.77 to $8.61 Thursday, while Sirius shares dropped 30 cents to $2.13, both of which are multiyear lows.

Sirius was the biggest decliner Thursday on The Hollywood Reporter's Showbiz 50 stock index. XM is not a member of the index.

Sirius and XM have been trying to merge since February 2006. Shareholders and the Department of Justice have signed off on the plan, but the FCC has not. It is expected to vote on the matter in the next few weeks, with chairman Kevin Martin already having voiced his support of the merger and XM and Sirius having already agreed to a host of concessions.

chart The issue all along has been that if XM and Sirius are allowed to merge they will create a satellite-radio monopoly. Because the FCC mandates a duopoly, it must be convinced that a rule change allowing for a merger is in the best interest of consumers.

Proponents argue that XM and Sirius have had to spend inordinate amounts of money to compete against each other and that one -- perhaps both -- could go out of business if something drastic, like a merger, doesn't happen quickly. They also said that satellite radio competes against free radio, iPods, in-car DVD and other technologies, so concerns of a monopoly are overblown.

Wienkes argued Thursday that, from an investment standpoint, the point is moot because shares of both companies are overvalued, merger or no merger. In part, that's because of "consistently declining cash flow estimates that are, in our view, insufficient to justify valuations, even giving credit for merger synergies."

The analyst also predicts the companies might choose to raise $500 million-$1 billion in new capital by early next year. And he's concerned that about 50% of those who get free satellite radio service with their new cars elect not to become paying subscribers once their free trials end.