Department of Justice OKs satellite radio merger, but isn't real clear about why

The justice department has concluded consumers won't be hurt by the controversial proposal to merge both satellite radio companies, saying competition from other sources ensures consumers won't face higher prices if the deal goes through.

The decision, announced today, states competition between XM and Sirius is already limited because both companies rely on exclusive contracts to put radios in new cars and trucks, which attracts substantial numbers of new subscribers. Even if consumers find satellite radio attractive, the company offering the service probably doesn't influence the decision to buy an automobile.

The U.S. Department of Justice press release acknowledges XM and Sirius compete for retail sales to customers who install their own radios, but retail sales have "dropped significantly since 2005, and the parties contended that the decline was accelerating."

The companies must now get approval from the Federal Communications Commission to complete the merger, but today's action is certain to rekindle controversy about the proposal.

A Confusing Analysis

Last year I wrote about some of the problems for regulators trying to determine how a merger might affect competition. The justice department statement is uncomfortably vague about how such problems were resolved.

A key question under antitrust guidelines asks if a merger would "substantially lessen competition," allowing the merged firms to "impose at least a 'small but significant and nontransitory' increase in (the) price" of their products. This is usually interpreted to mean a merger should not reduce competition enough to allow sustained prices increases of 5 percent or more.

The guidelines require that the department consider what substitute products are available, potential cost reductions from a merger, and the possibility the firms might otherwise fail, leaving consumers without access to their products. The justice department's actual analysis isn't available, so my comments cautiously rely on the press release.

The press release states "there has never been" significant competition between XM and Sirius for existing customers, and competition for new customers is expected to decrease. Each company sells radios that only receive its broadcasts. Technology that would allow a customer to subscribe to both companies "likely would not be introduced in the near term."

This suggests the companies may be limiting the development of such technology, even though it would increase their subscriptions. For example, anyone who wants to hear broadcasts available from just one of the companies -- such as major league baseball or Howard Stern -- might be willing to subscribe to both for the right price.

My example comes from the press release, which oddly makes the opposite argument. Differences in exclusive content, the release says, make it less likely that consumers consider XM and Sirius substitutes. This would only be correct if subscribers are primarily interested in a single company's exclusive content.

But it's plausible that many baseball fans like Howard Stern. Many consumers probably want to listen to a range of programming, and make purchase decisions by comparing groups of channels offering desired programs. This makes it possible, for example, that some consumers are forced to choose either baseball or Howard Stern.

The press release seems to accept this broader argument when it describes MP3 players, terrestial radio broadcasts, and audio delivered on cell phones as competition if the satellite firms merge. It would be interesting to know what evidence shows that demand for satellite radio changes when there is a change in the price of MP3 players or cell phone music downloads, which is how economists decide if goods are substitutes. (Obviously, free radio broadcasts are a separate problem).

These alternatives probably do compete with XM and Sirius as a source of widely available programming, such as music. This is less likely to be true for content that is exclusively available from the satellite companies, such as baseball games outside the market where a consumer lives.

Reductions in cost

The justice department also says its investigation "confirmed that the parties are likely to realize significant variable and fixed cost savings through the merger." Those savings, the department says, will be passed to consumers as lower prices.

However, two conditions must be met before consumers prices are reduced. First, the promised cost savings must materialize. The history of mergers suggests such savings are easy to promise, and difficult to produce.

Second, a merged company with lower costs will not reduce prices unless it faces significant competition. This means the department's analysis of effects on competition must also be correct.

The press release ignores a larger question associated with cost -- will the satellite firms fail if they cannot merge? The firms have argued they must merge to survive, so it's troubling that the justice department did not address this issue.

What's Next

It's quite possible the analysis is better than portrayed in the press release. As my earlier post noted, a merger is not automatically a bad idea.

However, the department probably had to use a lot of information provided by the companies because reliable alternatives aren't available. Merger decisions are also influenced by the ideology of the political appointees at justice who make the final call, and politics will play an important part when the merger proposal goes to the FCC.

For all of these reasons, today's decision needs a better explanation before it becomes fodder for the coming debate. Sadly, I doubt that will happen.

Things to consider about satellite radio

The proposed merger of the satellite radio companies, XM and Sirius, is getting a lot of attention because of the size of the deal (Bloomberg reports its worth $4.84 billion), because of uncertainty about how federal regulators will view the deal, and because consumers might be hurt by the reduction in competition.
The companies have about 14 million subscribers between them, each paying about $13 a month or more. A rough estimate suggests the merger would result in a company with subscriber revenues of at least $2.18 billion a year. However, the Chicago Tribune says the companies lost a combined $7 billion getting started, and the new company would have about $1.6 billion in debt. The companies argue the merger is critical to their survival because of intense competition from programming on the Internet, cell phones, and broadcast radio.

Some questions for regulators

Regulators at the Federal Communications Commission must approve the deal, or it won't happen. It won't be easy for the FCC to evaluate the arguments that consumers are substituting all of those alternatives for satellite radio.
First, consumers pay to receive satellite radio, but not for advertiser supported radio or Internet programming. But the best way to tell if goods are substitutes is by measuring the relationship between the price of one good (satellite radio) and the demand for other goods (everything else). How do you measure the influence of price if consumers can get the substitute goods for free?
Second, the market for earthbound broadcasters is defined by the reach of their radio signal, but the market reached by a satellite is not limited this way. And there is no good way to define the geographic extent of a market on the Internet.
I'm skeptical that all of the other media being cited by the companies are substitutes -- many people who consume free radio would not be willing to pay for the same programming. This does not mean the companies' arguments lack merit, but it's in their interest to push their definition of the market to the limit.

What about consumers?

There are two possible ways consumers could be hurt. First, the merger probably will result in higher prices. Second, the range of programming might be reduced.
The second point first. Phil Rosenthal at the Chicago Tribune points out that XM and Sirius offer different programming -- one has Howard Stern, and the other Oprah, one has football, and the other has baseball. So customers who like particular genres, such as sports, have to subscribe to both XM and Sirius to get all of the programming they want. However, it's unlikely many people are actually willing to pay for both services, not to mention impractical.
Customers who want programs on the service they don't subscribe to would be better off if the merger goes through. The new company will probably offer all the programs now offered separately because elminating programming means the new company would lose customers.
As a general rule, increasing the range of programming at a merged company would increase the number of subscribers. For instance, sports fans and opera fans would subscribe if they could both find programs they liked for a price they were willing to pay.
This goes back to the first point. Prices will probably increase, but subscribers will probably get more programming. Customers should pay more if they are getting more.
But will the new prices be so high that they cannot be justified by the increased programming?
This might be the outcome if the new company can monopolize its segment of the radio market. And that is why the market definition that the FCC adopts will be so important to this proposed deal.