So Why Did Newhouse Sell Random House to Bertelsmann Boys?

After four months of clandestine negotiations, Bertelsmann A.G., the German media giant, closed the deal to acquire Random House Inc.,

After four months of clandestine negotiations, Bertelsmann A.G., the German media giant, closed the deal to acquire Random House Inc., on the morning of March 23. By that evening, Bertelsmann’s chief executive designate, Peter Olson, and a half-dozen of his colleagues were making themselves quite at home in another New York institution, the restaurant “21.” Mr. Olson stood before his colleagues and offered a long vodka toast to the completion of something he referred to as “Project Black.”

That was the code-name dealmakers on both sides of the surprising sale have used in conversations, e-mails and memos to keep the talks secret. In the parlance of the deal, Advance Publications, which owns Random House, was known simply as “Black.” Advance Publications chairman S.I. (Si) Newhouse Jr. was known as “Black No. 1,” and Alberto Vitale, the chairman of Random House Inc., was “Black No. 2.” Gazing up at Mr. Olson that night at “21” were members of team “Blue,” as Bertelsmann was known during negotiations. Referring to the sometimes intense and occasionally deadlocked negotiations, Mr. Olson made a quip: “Some of us were feeling black and blue!” After the vodka toast, the revelers broke out the champagne.

Those negotiations ended formally at 8:30 A.M. on March 23 in a conference room of the midtown law firm of Davis, Polk & Wardwell, where Mr. Newhouse and Bertelsmann’s incoming chairman, Thomas Middelhoff, signed the deal that would turn the trade publishing jewel over to Bertelsmann in exchange for an estimated $1.4 billion. In the end, Bertelsmann–which already owns Bantam Doubleday Dell Publishing Group Inc.–emerged as a publishing behemoth, and Mr. Newhouse extracted himself from a marginally profitable book publishing enterprise that did not really suit the interests of his family-run media empire. The losers are the back-room employees of the companies whose jobs could be eliminated and authors and literary agents who now have one less place to peddle their wares.

John Updike, who publishes his books through Random House’s most literary arm, Alfred A. Knopf, learned about the sale through news reports. “Naturally,” he said, “one resists change and doesn’t like to have one’s nest shaken … I would hope that at this late stage in my career I won’t have to find a new home.”

So what were the Newhouses thinking? After 18 years of trying to mesh their book publishing enterprise with their sizable newspaper and magazine holdings, sources close to the family said, the Newhouses came to this stark conclusion: “Synergy is crap.”

Sources close to the family said the promise of promoting Random House books through Condé Nast magazines–another unit of Advance Publications made up of such magazines as Vanity Fair and Vogue –and conversely, of turning magazine articles into profitable books, never panned out.

“Do the Newhouses think there’s any benefit in owning books and magazines?” said a source close to the family. “The answer is No.”

A highly placed editor at the Newhouse-owned New Yorker agreed with that assessment. “The idea that The New Yorker has drawn any intellectual sustenance from Random House is ludicrous,” said the editor. “There has never been an exchange of ideas and, even in business matters, like first serial rights, Random House has always been as firmly self-interested as the next publisher.”

In the end, the cachet of Random House–the legendary house founded by Bennett Cerf and Donald Klopfer in 1927–was not enough to keep the Newhouses around. The Newhouses seem more taken with Condé Nast-style publications like Allure and their chain of newspapers than with the first American house to publish James Joyce.

“Si loves the media business and he loves it for the right reasons,” a source close to Mr. Newhouse said. “He genuinely loves owning things that make a contribution to a high level of intellectual discussion. But he is at core a businessman. He didn’t get to be worth however many billions of dollars he and his brothers are worth by indulging his own intellectual interests.”

Since September, Bertelsmann A.G.–the $12.86 billion a year German conglomerate that published the Brothers Grimm in the 19th century–has expressed a desire to acquire another American publisher. Thomas Middelhoff, a high-level manager at Bertelsmann’s Gütersloh headquarters who is now slated to become chief executive of the conglomerate, arrived in New York last fall in search of possible deals. Bertelsmann’s public relations spin has been that Mr. Middelhoff came to New York to “improve his English,” but he ended up well versed in the language of business. In his time here, he met with Rupert Murdoch, Viacom Inc.’s chairman, Sumner Redstone, and the Walt Disney Company’s chairman, Michael Eisner, as part of “an ongoing strategy to introduce himself to various media leaders here in the United States,” according to sources at the Bertelsmann-owned Bantam Doubleday Dell. As part of this meet-the-moguls campaign, Mr. Middelhoff met Mr. Newhouse on Nov. 7–by coincidence, Mr. Newhouse’s 70th birthday. Mr. Middelhoff casually mentioned that Bertelsmann would be interested in talking to Mr. Newhouse if he ever wanted to sell Random House. Much to Mr. Middelhoff’s surprise, Mr. Newhouse responded, “Give me a week to think about it.”

Mr. Newhouse, sources said, was actually eager to have an interested buyer. He had been brought up on magazines, under the tutelage of former master of all things Condé Nast, the artist Alexander Liberman, and he still maintains a keen watch over his Condé Nast publications, lunching weekly with Condé Nast chief executive Steve Florio and editorial director James Truman, and suggesting minute layout and design changes for his magazines. Donald Newhouse, Si’s brother, keeps watch over the family’s 26 newspaper holdings, and nephew Jonathan Newhouse oversees foreign magazines. But the family seemed to lack any deep affection for book publishing, and since purchasing Random House in 1980, has relied on surrogates to run the company. The formula never exactly gelled.

Mr. Newhouse, associates said, felt squeezed by the high advances, and strains caused by megastore booksellers. “The Newhouses basically did not see a solution to that on their own within the amount of money they were prepared to invest in the business,” said the source. So when Bertelsmann showed up unexpectedly, Mr. Newhouse and his brothers decided to sell. “There was really no alternative,” the source said.

Mr. Newhouse began preliminary discussions with Mr. Middelhoff soon after that Nov. 7 meeting. The first two meetings took place at Mr. Middelhoff’s office, but worried that news of the possible acquisition would leak out, both parties decided to hold the meetings in a conference room at the 62nd-floor offices of Lazard Frères & Company in Rockefeller Center. Mr. Newhouse employed the firm’s media specialist, Steven Rattner, to handle his side of the negotiations. Bertelsmann, though, relied on the instincts of Mr. Middelhoff, Mr. Olson and a small team of in-house financial specialists.

Mr. Newhouse and Mr. Middelhoff briefly discussed a merger of the two companies, but talks soon moved toward an outright sale. All parties in the negotiations used their code words assiduously, and pretty soon–with all the secret talk floating around–staff members at Bantam Doubleday Dell began to suspect something was up.

As negotiations wore on during the early winter, the relationship between Mr. Rattner and Mr. Middelhoff became important. Sources said that on occasion, tensions over Mr. Newhouse’s asking price grew so high that Mr. Newhouse and Mr. Middelhoff were not on speaking terms. During those times, the two men communicated through Mr. Rattner.

Ultimately, according to sources close to Advance Publications, there were two negotiations going on: one between Mr. Middelhoff and Mr. Newhouse, and another between Mr. Middelhoff and the Bertelsmann board back in Germany. The company is known for its slow, tough negotiating stances and board members were nervous, Advance Publications sources say, that Mr. Middelhoff and Mr. Olson were being too aggressive in their pursuit of Random House. Mr. Olson took exception to that characterization. “They were interested in how it was proceeding but to characterize it as a negotiation would be amusing but not accurate,” he told Off the Record. Messrs. Olson and Middelhoff got the board’s approval on March 18.

An interoffice e-mail was sent out at Bantam Doubleday Dell on March 19, inviting employees to a routine business meeting on March 23, where they would hear the news. By March 22, rumors of the deal were circulating in Germany, and Bertelsmann officials there denied them. On March 23, they wrapped it up. Mr. Middelhoff, Mr. Olson met Mr. Newhouse at the Lexington Avenue offices of Davis, Polk & Wardwell, Bertelsmann’s attorneys on the deal. Mr. Newhouse was dressed casually in a sweater and chinos, the Bertelsmann guys in suits. “We got together, shook hands, took a few photos, signed a transaction and went back to business,” Mr. Olson said.

Messrs. Olson and Middelhoff went back to Bertelsmann’s Times Square offices, gave the news to the publishers of their imprints, then headed to the staff meeting on the 22nd floor for a supposed “update on our fiscal year.” When Mr. Olson told the roughly 60 vice presidents and officers in the room, there was an audible gasp. He launched into a discussion of specifics and was interrupted by a staff member who said, “Will you give us a minute to catch our breath?” The staff then burst into applause. They had arrived.

After the meeting, Mr. Olson and Mr. Middelhoff then hopped into a car and headed across town to Random House’s offices, where they, along with Mr. Newhouse, addressed senior executives at Random House. There was no applause at Random House.

No group was more upset to hear about the deal than agents and authors around Manhattan. “The sale is very bad news for us,” said the literary agent Virginia Barber, head of the Association of Authors Representatives. “We need as broad a competitive field as possible and this reduces the competition drastically.”

Mr. Newhouse’s Random House earned the good will of agents by allowing its imprints to compete and even bid against each other for manuscripts. Bantam Doubleday Dell has a history of coordinating the acquisitions of its imprints.”One thing that Alberto [Vitale] has been famous for is encouraging competitiveness between his imprints. BDD thinks exactly the opposite,” said one prominent Manhattan agent, who called the sale “terrible.”

Bertelsmann’s Mr. Olson is now working to placate agents and writers. “We will maintain all the publishing divisions and imprints we have in place,” he said. “In terms of how we communicate internally … we’ve worked that out in the past to the satisfaction of the agent community at BDD and we’ll try to do the same as Random House has done, when we’re working together.”

Not all agents are buying it; just as the news was breaking, several were calling colleagues soliciting support for an organized opposition to the sale, on antitrust grounds.

Bertelsmann officials said they are confident that the purchase will be approved, but until that time the companies will continue to operate separately. If the sale goes through, Mr. Vitale will become head of a “supervisory board,” a kind of emeritus institution, according to Mr. Olson where “senior executives could come together on, say, a quarterly basis to discuss strategy.” In a March 23 letter addressed to “All Random House employees,” Mr. Vitale waxed philosophical about the sale. “We live in a time where change takes place everyday and everywhere,” he wrote. “As I am sure you realize, there will be changes.”

Additional reporting by Celia McGee.

So Why Did Newhouse Sell Random House to Bertelsmann Boys?