FCC Will Need To Answer Liberty Media Issue Surrounding Sirius XM

Apr. 3.12 | About: Sirius XM (SIRI)

There seems to still be a lot of confusion and speculation surrounding the Liberty Media (LMCA) filings with the FCC as well as the response submitted to the regulatory agency by Sirius XM (SIRI). Speculation is a wonderful thing, but having speculation grounded in some form of reality is even better.

In order to put all of this news into proper context we need to start with a few basic facts and realistic assumptions:

Basic Fact 1

Liberty Media essentially bailed out Sirius XM three years ago by offering the company a much needed loan. In return Liberty was afforded a healthy interest rate on the loan, and was offered a 40% stake in the form of preferred shares.

Basic Fact 2

Liberty Media, due to their substantial position in the company was allowed to vote their preferred shares, as well as appoint an appropriate number of Board seats that reflect their stake in Sirius XM.

Basic Fact 3

Part of the deal carried stand still provisions that prohibited Liberty Media from going over 49.9% ownership in the company for a specified period of time (3 years).

Basic Fact 4

Any stand still provisions between Liberty Media and Sirius XM expired on march 6, 2012. This paved the way for Liberty to do whatever they want to do.

Realistic Assumption 1

Liberty Media is not likely to simply sit on their stake in Sirius XM. In fact, the most likely situation is that they make some sort of move to monetize their investment and/or make it as tax friendly as they can.

Realistic Assumption 2

One direction for Liberty Media to move is to gain a majority stake in Sirius XM and then merge their majority position into the smaller Sirius XM. This is known as a Reverse Morris Trust and is a tax friendly transaction. The difficulty here is that Liberty needs the cooperation of Sirius XM to conduct such a merger. With cooperation all parties can benefit. Without cooperation, it can be a prolonged process that can harm both parties.

Realistic Assumption 3

Liberty could be going after an 80% stake in Sirius XM. This would allow Liberty to benefit from the substantial NOL's (Net Operating Losses) held by Sirius XM. Getting to 80% would be more difficult and likely require Liberty to make a more handsome offer than grabbing up the 10.5% needed to simply be the majority holder. Again, use of these NOL's would be something that would need to be negotiated with Sirius XM. A negotiation can be made that would have both parties benefit.

Realistic Assumption 4

Liberty could go for full control of the company, but that has its own drawbacks. The premium paid would again need to be higher, and this would effect a change in control that may wipe out the NOL's. The NOL's could be in jeopardy because there would be a greater than 50% stake bought (going from 40% to 100% would be a change in stake of 60%).

With that groundwork laid, we can now explore why Liberty media filed what they did, and perhaps reasons Sirius XM responded the way they did. Again, we get to basic facts and realistic assumptions:

Basic Fact 1

In order for Liberty to take control of Sirius XM, they need to be able to know that the FCC will bless Liberty owning the licenses that allow satellite radio to operate.

Basic Fact 2

Sirius XM has a fiduciary responsibility to shareholders to work out the best deals possible in the best interest of the shareholders. The same holds true for Liberty Media.

Basic Fact 3

At some point Liberty needs to broach the subject of the FCC licenses with the FCC. In one way or another, they need to determine whether the FCC will approve, and understand the time-frames involved.

Realistic Assumption 1

Liberty Media and Sirius XM have likely been in negotiations for quite some time. No real deal has been offered, but certainly concepts are being discussed. We know this to be realistic because within Sirius XM's response to the Liberty filings they stated that Liberty had asked for the password for electronic filing with the FCC and Sirius XM refused to grant access.

Realistic Assumption 2

With their filing Liberty was not trying to take control of Sirius XM for free. They were simply making the statement that as a major shareholder they already have a great deal of control, and for those purposes, the FCC should consider transferring the licenses to Liberty. Further, Liberty was likely saying that if the FCC did not agree to "de facto" control, would the FCC still take any umbrage to Liberty have real control if that were to happen. The FCC will need to answer Liberty on these points. The agency could come back and say, "come see us when you have deals in place that give you real control."

Realistic Assumption 3

Sirius XM needs these licenses to operate their business. If Liberty has "de facto" control already (in the eyes of the FCC), then Liberty has a much stronger negotiating stance. This could be the difference between gaining another 10.5% or taking it up to 80%. Sirius XM needs to maintain "de facto" control to have a better negotiating stance themselves. This is why you see the company responding strongly, and refusing to give up the password to the FCC electronic filing system.

Summary

It is pretty much a given that liberty will make some sort of move. We now understand why Liberty made their filings, and how they benefit Liberty. We also understand why Sirius is playing the cards they are. What we have here are two companies jockeying to make the best deals they can. The FCC's only part in this is making a determination as to whether there is any issue with Liberty gaining control of the licenses. These are the opening salvo's for a battle that we all knew would happen at some point. Stay tuned, because the fireworks may not be over yet. Something tells me the annual meeting this year will not be a ho-hum event.

Can Sirius XM CEO Mel Karmazin play hardball? To a certain extent, but investors need to realize that it is Liberty that has most of the cards, and thus more options at his disposal.

Those who would like a great summary of these issues can listen to Professor Christopher Harrison interviewed by Demian Russian and Spencer Osborne on Playground Radio. The link is here.

Disclosure: I am long SIRI. I have no position in LMCA