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Entrepreneur faces daunting challenge
Sam Zell likes to say a true entrepreneur has unending self-confidencethat he doesn't see risk, he sees only solutions.
That might explain why the flamboyant Chicago real estate magnate believes he can transform Tribune Co. at a time when newspapers and local television stations are under an unprecedented state of siege from the Internet.
Zell swooped in with a creative and audacious $13.2 billion bid to take control of the Chicago-based media company.
The offer that was announced Monday morning by Tribune's board is a high-stakes test of his theories about entrepreneurship. He will load the company with an unprecedented level of debt and use employee funds in the form of an employee stock ownership plan to help him finance the deal.
This transaction, which would return Tribune to private ownership, also would make the company one of the most heavily indebted enterprises in the media industry at a time of falling readership and declining advertising revenues.
Those close to Zell say his solutions likely will include making better use of the Internet and taking advantage of tax breaks and Tribune's real estate holdings. They say he intends to give current management a chance to extract value from an industry that has fallen out of favor with investors but one that Zell thinks can still thrive in the Internet age.
Zell is said to acknowledge he doesn't yet have all the answers, but it speaks to his confidence as an investor that he believes he can find them.
The fact that Tribune's auction dragged on for nine months with a dearth of serious bidders speaks volumes about how the rest of the world views the outlook for traditional media properties in an increasingly digital world. Zell hedged his own bet by limiting his personal investment in the deal to $315 million and relying on the ESOP as the backbone of his $8.2 billion purchase price. Tribune's $5 billion in existing debt will remain on the books.
Even some industry rivals are dumbfounded by what Zell has planned.
"The amount of debt Tribune is going to have blows my mind," said one of them, noting that he's expecting three years of cash flow declines as once-loyal advertisers rush to get online. "It seems very dangerous to me."
Many observers have speculated that Zell's only exit from the danger zone will be to continue the cost-cutting, job-slashing and asset-shuffling that has caused so much angst in the newspaper industry. Critics note that his recent operating results as a manager have been less than encouraging: Although he cleared $1.1 billion when he sold his Equity Office Properties Trust to Blackstone Group in February, that company's returns underperformed its peers' over the past decade.
But Zell has said repeatedly he has no intention of breaking up Tribune. He may find it tempting to ease the debt burden by selling a prize like the Chicago Cubs, but those who know him believe a strategy that depends on massive cost-cutting or asset sales isn't Zell's style. The 65-year-old Highland Park native, they say, earned his $4.5 billion fortune not by tearing things down but by building them up.
"His job is looking over the horizon," said a person who used to work with Zell. "You won't necessarily find [what he sees] in the annual report right now."
Short, balding and pugnacious, Zell is among Chicago's most iconoclastic business figures. A born outsider, he rides motorcycles, parties hard, talks like a truck driver and may be keeping Marlboro in business.
But no one would care about any of that if he weren't so good at buying low and selling high. Though his self-imposed nickname, The Grave Dancer, implies death and destruction, Zell's fortune is built on finding a pulse where others don't. His talent, people say, is exploiting assets in ways most never would have thought of.
In the case of Tribune, Zell has already shown off his financial agility. At least seven private-equity firms kicked the tires at Tribune but couldn't make a deal work for more than $30 a share. The board concluded that the four other deals that did develop were too tentative or too debt heavy, including two versions from Los Angeles billionaires Ronald Burkle and Eli Broad.
But then Zell emerged in early February with his offer. He made it work by building his proposal around an ESOP, which should slash Tribune's tax bill and boost the company's cash flow enough to make a much larger debt load manageable.
As creative as the deal is, however, adding more than $7 billion in new debt to Tribune's balance sheet puts the company under enormous pressure to perform. That may be risky, but according to Zell's worldview, it may also force a conservative, bureaucratic company that is stuck in the past to dig deeper to find some innovative solutions to help it start embracing the future.
While Zell has pledged that he has no intention of inserting himself in the editorial process at Tribune's media outlets, he will, however, play an active role on the business side. Executives running other companies he has invested in say Zell doesn't micromanage or presume to know more than his managers do about operations. But by constantly asking questions and testing assumptions, he tries to guide them toward more-effective strategies.
Tribune's fate will depend on Zell's ability to inspire better performance from a beleaguered management team led by Tribune Chief Executive Dennis FitzSimons. Sources close to Zell said current executives will get their chance to turn the ship around. But sources on the management team are well aware that Zell is known for making changes if he doesn't get results.
Most close Tribune observers agree that the Internet holds the key to the company's future. Sources close to Zell say he believes the company's potential online is being badly undervalued by the stock market.
While Tribune's long-term strategy of profiting from owning both television stations and newspapers in the nation's three biggest markets was long-ago discredited, its reach from Los Angeles through Chicago to New York is an essential component of its Internet strategy. The national reach of Tribune's 11 metropolitan dailies, combined with those of partners Gannett Co. and McClatchy Co. is what powers a set of national online networks anchored by job-search site CareerBuilder.com.
Tribune plans to broaden that partnership to build out other national networks, possibly by using established properties like Tribune's online entertainment channel, Metromix. Zell also sees opportunities in further expanding what's there. CareerBuilder is the dominant job site in the U.S. but is dwarfed by Monster.com internationally. Zell, who is an avid investor in Asia, Mexico and South America, will likely push harder on an international expansion, sources with knowledge of his plans said.
Tribune and other newspaper companies are also deep into discussions with Google Inc. and Yahoo.com to figure out ways to tap the value of the brand power and distribution clout of their local dailies. National advertisers complain that it is too complicated and inefficient to buy ads in local newspapers or on their Web sites.
But by banding together with a technology provider like Google or Yahoo, newspaper companies are hoping that technology will allow those same advertisers to buy ads on relevant pages across a national network of local Web sites. The impact would be more targeted and the results would be more measurable.
At the moment, the industry is divided into at least two camps on how to proceed, with Tribune and Gannett lined up against a consortium of smaller chains led by Denver's MediaNews and New York's Hearst Corp.
The MediaNews group is working closely with Yahoo, while Tribune and Gannett haven't committed yet beyond a small deal with Google. Eventually, however, most industry executives hope to see substantial revenue from these strategies.
Zell's challenge will be to extract this Internet value while somehow finding a way to energize print products that have been losing readers and ad dollars in ever greater numbers. Zell doesn't have an immediate answer to that question but is confident he can help management find one with some fresh thinking, sources said.
While that sort of ambiguity hardly inspires confidence, Terry Diamond, Zell's friend and co-investor since college, said it is typical of Zell.
"Sam is intensely curious and he's not restrained by conventional wisdom," said Diamond. "He likes to figure out puzzles and he's very good at it. It's in the puzzles that there's opportunity."
A close reading of Tribune's annual report shows that there are also some opportunities others might have missed. The company's real estate may be the sort of hidden asset Zell relishes. Next January, Tribune Co. has a right to purchase the L.A. Times building, Newsday's headquarters, the Baltimore Sun's building and five other properties for $175 million from the Chandler family, the company's largest shareholder. That's $51 million less than the appraised value those properties had more than a decade ago.
Zell is, above all else, a real estate specialist. Actively managing Tribune's properties could yield big profits as could taking advantage of real estate like the parking lot behind Chicago's Tribune Tower-an idea Tribune management has considered but never executed. One source noted that Tribune's Freedom Center printing facility is in the middle of an area that is gentrifying rapidly. Would it make more sense to build elsewhere and lease that space for development?
It's also true that the ESOP isn't the only tool available for reducing Tribune's corporate taxes. Tribune offers Zell the chance to deploy one of his favored techniques: using losses from prior years to offset profits from current operations. Tribune carries $823 million in so-called operating loss carry-forwards, and current management believes $37 million of those will expire unused. Zell's track record indicates he would hustle to find ways to use every penny of that $823 million.
Executives at Zell's other companies said his efforts to find value from a company's assets don't usually involve abrupt moves. They evolve from countless conversations with management in which Zell constantly challenges assumptions and pushes to make decisions. Zell is known for his explosive, often profane outbursts, but colleagues say he is typically calm, focused and to the point.
"If you walk out of a meeting and you don't know what he wants you to do, you're an idiot," said one former co-worker. "There's no hidden agenda."
A typical Zell strategy emerged at Covanta Energy Corp., a company that generates electricity by burning garbage. Zell had just bought up the assets of a failing insurance company in 2003 when he spotted Covanta.
The insurer had hundreds of millions in losses on its balance sheet. To take advantage of those, Zell needed a company that would spin off considerable profits. Covanta, just then emerging from bankruptcy, was one of several companies Zell acquired to do just that.
Just before Zell bought in, Covanta dumped the extraneous units that led to bankruptcy in the first place: ill-fated investments in hockey arenas, airport services and movie theaters.
But Covanta was hardly a guaranteed success, and Zell soon faced two major decisions. The existing CEO, a relatively inexperienced former plant manager named Anthony Orlando, was untested and made some early mistakes. Orlando's hand-picked chief financial officer, for instance, had to be let go because he couldn't handle the complexities of Covanta's business. Meanwhile, Zell thought Covanta should dump its Asian operations, even though management wanted to keep them.
Zell decided to give Orlando a second chance-and a chance to prove the Asian operations could contribute. Both moves turned out well. "He's not a micromanager, but you definitely feel his presence," Orlando says.
Covanta began logging big profits, and Zell sidestepped any taxes by offsetting the earnings with the losses the insurance company carried on its books.
Richard L. Huber, who sits on the board of Covanta and several other Zell companies, said this is vintage Zell: Turning profits from a decidedly unsexy business, avoiding taxes, guiding outcomes without dictating tactics. "Certainly, he's not an absentee landlord," Huber said. "But Sam's oversight is also not pushing every button, pulling every lever."
As good as Zell has been with vision and broad strategy, prior experience shows some errors and shortcomings in the course of his career too.
Zell's investment in Equity Office Properties has been hailed recently as a striking success, thanks to his $1.1 billion cash haul from the sale of the company. Yet for most of its existence, EOP trailed the average real estate investment trust, and its stock price never fully reflected the value of the underlying real estate assets. The firm was roiled by executive-suite tensions, which forced Zell at one point to step in as chief executive-a more hands-on role than Zell typically prefers to take.
"A REIT that big-with 700 office buildings under one roof, the hypothesis that there would be an advantage to that in the marketplace just didn't turn out," said one Zell associate. "Managing that many properties just got too hard."
Still, the whopping $39 billion sale of Equity Office seems to stand as evidence that even Zell's mistakes have tended to turn out well for him. His other high-profile calamity, the near-bankruptcy of a department store company called Broadway Stores, was averted at the last minute. Even as vendors began refusing to deliver goods to Broadway's stores, Federated Department Stores in 1995 took the chain off Zell's hands in an all-stock transaction.
At Tribune, Zell will face more moving parts, more buttons and levers, than in perhaps any other investment he has made. The industry's well-documented revenue problems are one thing. But the economic pressure has created management challenges that Zell may not easily fathom. The recent newsroom rebellion in Los Angeles over cost-cutting demonstrated that operating a company full of journalists is among the more daunting challenges in business.
Journalists are creative, often non-conformist and dedicated to the social mission of their craft. They routinely challenge authority, and that can include their own managers.
Above all else, Zell will have to teach Tribune how to innovate in the way it did when Col. Robert McCormick broke new ground as head of the Chicago Tribune. While other publishers tried to stop new, emerging media forms, like radio and television, McCormick embraced it by starting WGN-AM 720 and Channel 9. Finding answers to today's old-media woes will require entirely new ways of thinking. That's what Zell did at Glenview-based Anixter Inc., and Tribune can only hope for such a positive result.
Anixter CEO Bob Grubbs explained that in the 1980s, the company was a low-tech wire and cable distributor that had very little promise. Zell bought it and over a period of years he and Grubbs transformed it based on two ideas: First, every building in America is going to need more and more cable as devices like computers, phones and TV become increasingly digital.
Second, if Anixter could convince its customers to let it manage the purchase, delivery and billing for those products, it could become an essential partner on those projects. By investing in global expansion and an Internet-based system to manage these complex customer relationships, Anixter has become a worldwide supply-chain manager, not a mere distributor.
"He changed an old-line business into a new-line business," Grubbs said.