Random House Homeless! Office Space Vanishes!

If you were wondering what might send the world’s third-largest media conglomerate into a swivet, look out the window: There’s a 7 percent vacancy rate in midtown Manhattan, and Bertelsmann A.G., the $16.4 billion German-based behemoth, is feeling the strain. They may know how to partner up with everyone from venture capitalists to Web geeks and how to recognize cachet value when they see it. But real estate …

When Bertelsmann bought Random House from Advance Publications Inc. in July 1998, it guaranteed itself a very expensive adventure in the wilds of the Manhattan marketplace. It signed a deal that allowed the subsidiary-now known as “old” Random-to remain at 201 East 50th Street for two years. At which point the rent would double. Instead of seeking long-term rental space in an existing building, Bertelsmann decided to put up a lavish new building for its book publishing empire, first across the street from its 1540 Broadway headquarters and then, when that deal fell through, on a site on Broadway between 55th and 56th streets. But that’s taken longer than two years. Now the rent increase has become a reality, and ground hasn’t even been broken for its new tower.

So the company has had to resort to temporary housing for several hundred employees. Cost: tens of millions of dollars and considerable hand-wringing.

Things have gotten so woolly, Bertelsmann is now talking with landlords at two separate locations. There’s a lot of schlepping in Random House’s future. By the end of June 2000, the several hundred denizens housed in the “old” Random House building must relocate to space at 280 Park Avenue and 299 Park Avenue, where Bertelsmann is currently negotiating leases. The price of the space, to be occupied for between two and three years, will range from $55 to $59 per square foot; Bertelsmann currently pays $40 per square foot for the 389,688 square feet it leases at 201 East 50th Street.

A Random House internal memorandum issued Nov. 8 stated that one appeal of the chosen locations includes an arrangement “for all Random House employees to be able to use the 299 Park Avenue cafeteria, which we will subsidize, whose menu prices will be comparable to those at 1540.” Employees will also keep their present telephone numbers.

The memorandum, signed by Random House chief executive Peter W. Olson and president Erik Engstrom, explained, “We anticipated signing a new multi-year lease at East 50th Street, and we offered the lease holder, Advance Publications Inc., an enormous premium over the market value of the space in order to achieve this. However, Advance has declined to enter into renewal negotiations with us at any price and has reclaimed all of our space, which is their right as our landlord.”

Things were more relaxed back in July 1998, when Bertelsmann signed its two-year sublease. Then, no one seemed to be aware of the difficulties of finding a huge hunk of space in a bull market. And higher-ups thought they could renegotiate a holdover clause that would increase the rent to $80 per square foot, if they were still there in two years. Advance has 19 years left on the lease; it is currently fielding bids from several large law firms and a major nonprofit organization.

“It was their impression that they could walk into any building and say, ‘We’re Bertelsmann and we want 300,000 square feet for two years,’ and everybody would say, ‘Fine,'” said an industry source with knowledge of the circumstances. “They’re arrogant, they don’t want advice from people. I cannot think of another company-even companies with big real estate departments-that has done it by themselves. It’s a special skill, developing a plan. The marketplace is smarter than everybody. They thought it was going to save them money and fees. Now it’s going to cost them so much more,” said the source. “It’s a no-brainer.”

The company spent the better part of 1998 negotiating a deal for a site across the street from 1540 Broadway; just before last Thanksgiving, the deal fell apart.

So Bertelsmann decided to look for long-term space to lease. John C. Cushman III, the president of Cushman Realty Corporation, came on in early 1998 to help Bertelsmann evaluate alternatives for building sites and long-term rental space. Late this summer, Cushman & Wakefield Inc. vice chairman Donald A. DiRenzo Sr. was brought in to help find a short-term lease. Bertelsmann president Robert Sorrentino and Random House Inc. senior vice president and general counsel Harriette Dorsen are the company representatives most closely involved with the relocation.

Random House spokesman Stuart Applebaum declined to comment on the company’s decision to wait until the beginning of 1998 to seek guidance. “We’ve had wise and knowing counsel for an extended period of time,” he said. “We’re very happy with the advice and direction we’ve received from the knowledgeable real estate experts who have been of assistance to us.”

“Over time, we considered any number of options,” said Mr. Applebaum, “but our first and prevailing ambition was always to build a new Random House building.”

There are plenty of media companies full of smart men, but a trip into the real estate jungle usually prompts a call for expertise. Advance, for instance, hired Insignia-ESG Inc., just as Rupert Murdoch’s News Corporation and the New York Times Company once did. Time Warner Inc. rang up Julien J. Studley Inc.

Mr. Cushman worked on a fee basis, not on commission. That meant that whether or not he came through, Bertelsmann still had to shell out the cash. Company representatives went from one location to the next-from 622 Third Avenue to 685 Third Avenue to 1166 Avenue of the Americas to 1633 Broadway-trying to find the temporary digs known as “swing space.” Landlords were interested in 10-year leases, not two-year ones.

“The market is very tight for large blocks of space, especially ones over 150,000 square feet,” said Jay Neveloff, a real estate lawyer at Kramer, Levin, Naftalis & Frankel. “And you don’t really market short-term bulk space in a prime area except in very unusual circumstances.”

One theory about how Bertelsmann managed to back itself into a corner concerns the company’s 1992 real estate coup for its current headquarters at 1540 Broadway. At the bottom of the market, Bertelsmann bought an empty 1-million-square-foot office tower from a real estate partnership that had gone bankrupt; Mayor David Dinkins sweetened the pot with $10.8 million in tax breaks. Mr. Olson, then president of Bertelsmann Inc., is credited with orchestrating the deal. But the triumph may have lulled Mr. Olson and company into believing they had real estate expertise instead of fortuitous timing. And so, this time around, at the top of the market, Bertelsmann was caught off guard.

Then came another wrinkle: At the beginning of September, on the verge of securing a $28 million tax incentive package from the city for its new Broadway tower, Bertelsmann walked away rather than undergo an environmental impact review. The report would have set the company’s plans back as much as a year. Some in the real estate community branded Bertelsmann as the first company in New York City history to ask for tax breaks and then turn them down. Actually, the package never even made it to the Economic Development Corporation’s board, so technically it didn’t turn down anything.

Now the company must focus not only on constructing a 25-story mixed-use tower, it must brace itself for a nomadic existence over the next three years. Costs can run into the tens of millions of dollars, what with everything from laying cables to printing stationery. Not to mention sorting out who gets the best offices.

“We know that 201 East 50th Street has been a valued professional home for so many of you over the years, and we empathize with the sense of separation you may be beginning to feel,” reads the Random House memo. “We will do everything we reasonably can to make your impending move as smoothly organized as possible and your work environment in your new location comfortable and compatible while our permanent home is being built.”

And the fate of the decorative metal Random House colophon in the lobby of 201 East 50th Street? “We haven’t really gotten that far in our interim space planning,” said Mr. Applebaum. “It certainly won’t be up by the end of June. We hope to have some way to display that our new space is home to some Random House publishing.”

The Publishing column can be reached at emanus@observer.com. Random House Homeless! Office Space Vanishes!