Saturday, January 20, 2007

RIAA vs. XM - Is It Worth It?

January 20, 2007

First things first. I feel that the XM Inno and Helix fall within the current laws regarding fair use, and hope that XM Satellite Radio prevails in their suit with the RIAA.

That being said, I feel that the risk XM Satellite Radio has taken is far too big, and the potential outfall has not been worth it.

The first thing we need to consider is the benefit that XM received from the creation of the Inno and Helix units.

Lets assume for a moment that 200,000 units were sold. The question is this:

How many would have been sold if the features that the RIAA takes exception to were never implemented? In other words, if Artist Seek, Song Seek, and Desegregated Recording Capabilities were not in the unit, how many would have sold?

Lets assume that those features directly accounted for 10% of the sales. This would mean that those features were responsible for 20,000 units out of the 200,000 sold. Is satisfying a recording capability that before now was unknown worth it? What type of return does XM get for those 20,000 or si subscribers that bought the devices because of those capabilities?

If an average subscriber lasts 3 years, those 20,000 subscribers would generate $9,324,000 in subscriber revenue (20,000 * $12.95 * 36 months). That same subscriber would also generate some advertising revenue that needs to be considered. Looking at a best case estimate, the 20,000 subscribers would net XM somewhere in the neighborhood of $10,000,000 ver a three year period.

Now, in order to better understand the issue, and the risk involved, I would like to step away from XM to clarify what Sirius has done, and why the RIAA does not have a suit against Sirius.

Sirius' Stiletto does not have the artist or song seek feature. Sirius Stiletto can record in blocks similar to XM’s units, but the device will not give you a readable listing of the recorded content that you can pick and choose songs from. You can save individual songs, but the way for doing that is if you are actually hearing them "LIVE" when you decide to save them. For the Stiletto to have these capabilities, Sirius pays a $15 bounty to the RIAA for each unit sold.

Understanding the deal between Sirius and the RIAA is important because it establishes the likely minimum that the RIAA would negotiate to.

Thus, the theoretical starting point would be $15 per unit AND the removal of the features that the RIAA takes exception to.

So, assuming 200,000 units sold, we are looking at a minimum of $3,000,000 to get to the point where XM can match the Sirius deal ($15 per unit sold), and that would most likely require XM to sacrifice some capabilities on the units.

The next component rests with what happens to the 200,000 units that have capabilities outside of the deal. Can the units be brought into RIAA acceptable compliance via a firmware update? If so, what becomes of the consumers who now are losing features? Do they get made whole somehow? If a firmware update does not work, or for some reason the update does not satisfy the RIAA, how much of an additional penalty on top of the $15 per unit will clear the slate to settle this out of court?

The RIAA is seeking $150,000 per song downloaded onto these devices. If each Inno/Helix sold, assuming 200,000, had only 1 downloaded song the RIAA would be seeking $30,000,000,000 (Thirty BILLION Dollars). If the penalty was $15 per song, the price is tag is $3,000,000.

The Incremental Benefits:

Subscriber Revenue - $9,324,000 – (20,000 subs who bought the Inno or Helix specifically for the disputed features)

Ad Revenue - $932,400 (assumes ad revenue at 10% of subscriber revenue)

TOTAL BENEFIT - $10,256,400

The Risks:

A loss in court with the judge allowing the RIAA’s full request at $150,000 per song downloaded. A loss could be very costly or have very little cost, but what is known is that there is risk involved

Being labeled as the company that brought on tighter restrictions in the form of potential case law, or being known as the company that propelled the RIAA into trying to get more restrictive legislation passed.

Looking at this suit reasonably, there is no way that the RIAA would settle for anything less than the reduced capabilities, and the $15 per unit that Sirius pays, and there is likely no way that the RIAA would accept current units being operated outside those parameters. Thus, a reasonable base point for the risk in my opinion should be established at $15 per unit sold plus a contingency for either paying additional money to the RIAA, or paying making subscribers with these devices "whole" should their devices be required to be updated.

As an investor my bone of contention with this whole issue centers around the risk vs. reward ratio. Had XM released the Inno and Helix with recording capabilities set up in the manner of the Sirius deal, they likely still would have sold roughly the same number of devices. Thus, the benefits of this issue realized by XM are very minimal, while the risks can be potentially devastating. The fact that XM went forward with the knowledge that the RIAA was going to take exception to these devices is disturbing, especially considering the low level of benefit that could be realized.

Sometimes the principal of a subject is worth while. Sometimes it is not. I believe that the XM is correct on principal, but I also believe that there were other ways to get that point across without taking on so much risk.

With the recent denial of XM’s "Motion To Dismiss", the negotiating power of XM has decreased, and the stakes have gotten higher. This case is now set to go to court. In reading the case, there were statements made by all parties that I do not agree with (inclusive of the judge). That however does not change the course that this issue is currently on. I worry that the XM case, and other cases, such as the All of MP3 case that we recently wrote about, have the potential to set some precedents that may not be well accepted by the consumers, and may bolster the idea that the proposed legislation should pass.

To date, special interest groups and lobbyists who have the interests of the RIAA in mind are controlling the path of legislation. Satellite radio users do not have a unified voice to get their opinions known. XM and Sirius stand virtually alone in their fight against the legislation, and XM stands alone in their suit against the RIAA.

I must stress again that I feel that XM is within the laws regarding fair use, and I hope to see them win in their suit. I must also stress that in my opinion the capabilities of the Inno and Helix make it easy for an end user to stretch the fair use laws into a gray area, and it is this point that gives the RIAA their strongest argument. As an investor I am frustrated, and always have been, with the decision made by XM regarding these capabilities. End users have the ability to build play lists already with capabilities such as that in the Stiletto or S50 and those capabilities have not generated law suits.

Having used the Inno, Stiletto and the S50, I can speak to the issue quite clearly. Building a 100 song playlist on the Inno can happen faster than on the Stiletto, but not so much so that it makes a world of difference, and to me that little benefit was not worth the risk taken.

For, now, we have to wait on the law suit. However, we can act on the legislation. This site and others have links to "Digital Freedom" (Their links are on this site free of any charges). I would strongly suggest that if you are a satellite radio consumer that you go to that site and read about the issue. GET INVOLVED. DO NOT LET DECISIONS SIMPLY HAPPEN. MAKE SURE THAT YOUR VIEWS ARE EXPRESSED AND KNOWN.

Labels: digital freedom, fair use, helix, inno, law suit, riaa, xm