What Stern Lawsuit, Royalties Mean For Sirius Investors

| About: Sirius XM (SIRI)

A New York state judge has dismissed the lawsuit that Howard Stern and his agent had filed against Sirius XM (NASDAQ:SIRI) over unpaid stock options. The New York Times reported that Justice Barbara R. Kapnick had granted Sirius's motion for summary judgment in the case. That effectively dismisses the suit, but it probably won't end the case.

The Twitter feed for Stern's radio show said the shock jock plans to appeal the case, the New York Times Media Decoder blog reported. There is no indication that Stern's lawyers have filed an appeal or are working on one. The Associated Press reported that the suit had been dismissed with prejudice, which means it cannot be filed again unless Stern's lawyers offer new facts. The only other way to keep it alive would be to appeal to a higher court.

Stern and his agent, Don Buchwald, sued Sirius in New York state court last year, contending that it had broken a five-year contract that promised the two, hundreds of millions of dollars in stock if Stern could attract more than one million listeners to Sirius. Justice Kapnick ruled that the contract was effectively nullified when Sirius merged with XM and became a new company, Sirius XM.

Kapnick's ruling was announced in documents filed with the SEC on Tuesday. The Chicago Tribune reported that the $300 million suit was actually filed by Stern's production company, One Twelve, and not Stern himself. Sirius hailed the ruling as a victory and described the dismissal as unambiguous.

It is unclear if this argument would hold up on appeal or not. Sirius stopped making the payments to Stern and Buchwald in 2007, but Stern kept working for Sirius. The shock jock even signed a new five -year deal with Sirius in 2010. The ruling should not affect the radio legend's current contract, which is an entirely separate deal. It is not known how this would affect any future deal Stern and Sirius would sign for continuing the show after 2015 when the current contract expires.

Media reports indicate that Stern's old contract was worth around $500 million. Stern's current contract, signed in 2010, reportedly pays him $80 million a year in cash for his show, but no stock. There had been speculation that Stern was planning to leave Sirius XM for an internet outlet such as Apple (NASDAQ:AAPL) iTunes in 2010.

Figures about Sirius and Pandora's royalties payments to Sound Exchange could be exaggerated

The music business trade journal Billboard is reporting that estimates of the amount of music royalties payments that Sirius and online radio provider Pandora (NYSE:P) paid to SoundExchange may have been exaggerated. Last week, Live365 lawyer Angus MacDonald told Digital Music News that he thinks Sirius and Pandora pay 90% of the song royalties to SoundExchange. If MacDonald's claims are true, then Sirius would be paying about 53% of SoundExchange's royalties, a figure that added up to $200 million in 2011.

Billboard writer Glenn Peoples noted that MacDonald's figures are just an estimate based on documents Sirius had filed in a lawsuit against two music industry groups, SoundExchange and the American Association of Independent Music. Peoples disputed MacDonald's estimate and offered another one based on figures from Sirius's annual report.

Peoples estimated that Sirius paid SoundExchange around $169.8 million in royalties, not $200 million as had been reported. The writer believes that MacDonald made the mistake of adding Sirius's royalty revenue for non-music programming, such as talk and sports the estimates. Even if this were true, it would still make Sirius the largest payer of royalties to SoundExchange. Peoples also believes that MacDonald had added royalties paid by Sirius XM Canada, which is not covered by SoundExchange.

SoundExchange itself also disputes MacDonald's contentions. The organization is barred from releasing specific data about digital music royalties to the public. Yet in a press release that SoundExchange sent to Billboard and other media outlets stated: "However, we can say that the recent estimates we've read of satellite radio and Pandora payments constituting '90% of SoundExchange annual revenues' are incorrect - the real number is substantially below that."

It is impossible to tell who is right here because SoundExchange will not release its numbers. Peoples' allegations do cast a lot of doubt on MacDonald's contention that Sirius and Pandora have SoundExchange have enough leverage over Sound Exchange to force it to do their bidding, yet. Yet, they are still the Exchange's biggest customers.

Pandora goes after radio advertising dollars

Pandora is making an aggressive push to take local advertisers, such as small business, away from traditional radio outlets like Clear Channel (CCMO) and CBS (NYSE:CBS). Pandora founder and chief strategy officer Tim Westergren told the New York Times that his company now has the technology that can target advertising to specific listeners.

The company reportedly has programs that can classify listeners by such criteria as age, zip code, and even Congressional district. That means it could theoretically tailor ads to those listeners that advertisers find most desirable. It should be noted that there is no evidence that this technology actually works or how well it works.

This technology is the center of a sales offensive the online radio provider has targeted at local businesses. The effort includes 400 local advertising campaigns in which Pandora salespeople call on businesses to peddle its products. Other old fashioned sales efforts include dinner parties for business owners at upscale restaurants.

Pandora has launched the effort because it thinks local advertising is the future. The idea is that listeners will put up with ads and online songs if the songs themselves are free. Currently, the company also offers an ad -free music service for $36 a year.

Pandora is certainly growing fast. In March, it streamed a billion hours of music, according to the New York Times. The problem is that it has not yet found a way to turn all those streaming tunes into anything like a profit. Like Sirius, it has to pay a lot of its revenue to the SoundExchange in the form of royalty payments. Angus MacDonald estimated that Pandora now pays 37% of SoundExchange's royalty payments, which came to around $136,346,980 in 2011.

Clear Channel claims it is not worried by Pandora's growth. When he talked to the New York Times, the radio giant's President of National Sales, Marketing, and Partnerships, Tim Castelli, dismissed Pandora as a "play list generator."

Yet the company has launched a new marketing and sales group headed by Castelli. The sales group will launch "national multiplatform marketing initiatives." In plain English, that means Clear Channel will try to sell ads in several media in one package. It is interesting to note that Castelli was just promoted to his new position. He was previously the executive vice president in charge of digital sales.

Clear Channel is also making major staff cuts at its mid-sized stations around the country. These efforts are being described as corporate downsizing. So, it is unclear if Clear Channel thinks local radio has a future or not. It could be planning to pump resources into its iHeartRadio digital operation in an attempt to stave off a challenge from Pandora.

Castelli's presence at Clear Channel is a sign of this. He was brought into the radio station empire from AOL (NYSE:AOL), where he headed the Eastern U.S. region in March. In the past, Castelli has worked at Google and Rolling Stone, so he knows the online and music industries. Advertising Age reported that Castelli was hired specifically to turn iHeartRadio, which currently just streams Clear Channel stations online for free, into a revenue generator.

The radio market and the music market appear to be changing. Some observers have even compared the situation to the market for Yellow Pages and Directory advertising right before Google (NASDAQ:GOOG) moved into it. This seems like a bit of stretch, but Pandora's recent figures show that it is a possibility that we should take seriously.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.