by James O'Shea
At JPMorgan Chase, no one was singing “ka-ching.” When the bank initially started syndicating the Tribune loans, traders in the secondary syndication markets had priced them at their face value. In other words, big institutional investors would pay $1 billion for $1 billion worth of Tribune debt so they could collect the interest (just under 8 percent at the time) the company was paying on the deal. But the uneasiness of the markets had changed things, and by July 2007, Peter Cohen told his boss, the bank’s chairman Jamie Dimon, that the syndication efforts had garnered only $3 billion worth of orders on $7.1 billion in loans.
Cohen suggested that Dimon call FitzSimons and Zell, who had joined the Tribune board when the deal had closed, to discuss deal “enhancements” that would help the bank “clear the market and set the right tone for the second step”—billions more in loans to the Tribune to enable it to purchase the rest of the stock. “There is tremendous deal fatigue . . . particularly on the Tribune side,” Cohen told his boss, “and it would be reassuring for Dennis [FitzSimons] to hear from you. He values your advice and will have to discuss these changes to the deal with his board this weekend.” One of the enhancements to get the loans off the books of the banks involved a price cut. The fees that they were being paid to work with Tribune would be largely wiped out by the loss, but at least they would not have the loans on their books.
To close phase one of the deal, the Tribune had secured a solvency opinion, or a certification from an independent outside expert that examines a company’s finances to make sure that the additional debt won’t break the borrower’s financial back. Federal banking regulations prohibit banks from making loans to companies that are insolvent, and banks often required opinions from solvency experts that function like a financial good housekeeping seal of approval. Now the Tribune Company needed another solvency opinion to close phase two of the deal, and the second opinion became crucial, because many analysts started speculating that the additional debt in phase two would push the company over the edge.
Soon the panicked mood that dominated the markets prompted Wall Street to begin speculating about what would happen if Tribune Company couldn’t get the solvency opinion it needed to finish phase two. It wasn’t long before the markets for the company’s stock, bonds, and debt went haywire. Tribune stock, which Zell had already committed to buy back at $34 per share, dropped to $25 by August, no doubt helped along by short sellers who profited from declining prices. The company’s outstanding bonds took an even bigger hit, and the $3 billion or so in loans that had already been syndicated fell in value by as much as 10 percent, presenting banks with a huge problem.
If a bank that had just lent Tribune Company $1 billion tried to sell the loan to someone else, the investor, jittery about the market chaos infecting Wall Street, might pay only $900 million to take the loan off the bank’s hands. Why? Because the speculation about the company raised fears that Tribune would be unable to repay the loan. The investor demanded a discount to compensate for the higher risk involved in the deal. That meant that the banker trying to syndicate or sell the loan faced a $100 million loss. Multiply that number by four for the $4 billion in loans still on the banks’ books and you get $400 million in red ink, more than double the fees they had collected for making the loans in the first place.
Of course, the banks could always simply do what banks were set up to do: make a loan and profit on the difference between what it paid depositors for its funds and what it collected in interest from the party that borrowed the money. The Tribune, after all, was paying just under 8 percent interest to the banks for the loan at a time when banks had to pay far less to depositors or other sources of lendable money. But that would have been dreadfully old-fashioned in markets that had developed things like credit default swaps—insurance contracts that Wall Street banks and big investors bought and sold in a trillion-dollar market so they could gamble on the borrower’s ability to repay loans. But holding onto the loan presented a problem for the JPMorgan Chases of the world, too. Keeping the loan on their books would force banks to increase their financial reserves, a practice that crimped banks’ style and profits. Meanwhile, the premiums banks would have to pay for insurance protecting against a default by Tribune soared.
At JPMorgan Chase, one alarmed banker working on the case wrote her boss that the bank was “totally underwater” on the Zell deal and suggested that someone meet with Zell to see if he could help clear the way to get the debt on the books of an institutional investor. Jimmy Lee, a JPMorgan Chase vice chairman who had also played a major role in Rupert Murdoch’s acquisition of the Wall Street Journal, soon sat down with Zell to explain what they were up against: “Met with Sam today and told him all of the issues around selling the remainder of his acquisition debt . . . i.e., it couldn’t be done,” Lee recalled. “To his credit, he said he would do what was necessary to help us. We discussed him selling more assets, improving the yield, etc. I also raised it would probably be helpful for him to be involved in the operations of the company [as the CEO] to the extent permitted, given the softness in the space and our need to have a strong story to sell.”
Zell wasn’t willing to raise interest rates, put in more money, or do anything that would change the economics of the deal, but shortly after the meeting with Lee, FitzSimons, who assumed he would resume his post as CEO once phase two closed, asked Zell what he was thinking for the future. Zell put him off, saying they’d discuss that later in September. Some of the bankers, meanwhile, started thinking about ways to renege on their commitment to fund phase two of the deal. JPMorgan Chase banker Darryl Jacobson asked if the bank could suggest to the firm slated to do the crucial solvency opinion that the phase-two debt might so encumber Tribune Company that it would be unable to refinance some existing debt and meet its future “obligations as they come due,” a key hurdle Tribune would have to overcome to get its solvency certificate. But Dimon wasn’t about to shaft a major customer like Zell: “That’s like asking if the weather was bad. Yes, by that time, the weather was bad. [But when] we sign the binding commitment, it’s a binding commitment. That’s . . . why you have a bank.” One Deutsche Bank analyst concluded that Zell had locked the banks into the deal so securely that they couldn’t get off the hook even if they wanted to: “We believe that the Tribune going private transaction will [close],” the bank told its clients. “There may be some unhappy lenders in the end, but our understanding is that Zell/ESOP [has] secured financing via commitment letter, which essentially locks in financing to complete the deal. Our impression is that the agreements are pretty tight.”
Zell’s determination to buy Tribune puzzled some, who speculated that he did the deal to show up the blue bloods in the Chicago business establishment—the people who had always looked down their noses at the blunt, motorcycle riding, rough-neck billionaire. But Dimon disagreed: “Sam until very late in the game thought he was going to make a lot of money on this.” Zell claimed that he hadn’t invested in Tribune to turn a quick buck; he was betting on the long haul and would make a killing by holding on to Tribune for ten years, at which point he could sell out with a huge profit structured in a way to avoid a big tax bill. “We’ve never been flip artists,” Zell explained, “we’ve held stuff forever. I still own a building I bought in 1966.” The internal math on the deal put Zell’s rate of return at 20–30 percent. When Tribune’s stock dropped to $25 a share, he approached JPMorgan Chase to see if he could accelerate loans to buy the stock on the open market instead of forking over $34 per share a few months later. But the bank turned him down because the proposed changes would have weakened its status as a creditor if the whole deal went belly up.
As fall approached, the banks began to realize that divine intervention would be necessary to renege on their commitments, which they compared to paying a dollar for something that was only worth 92 cents. Analysts at the lead banks suddenly became quite interested in Tribune operations, firing off e-mails to Tribune, each other, and to Nils Larsen at Equity Group
Investments (EGI) asking eleventh-hour due diligence questions about the pricing and volume of the company’s top twenty-five advertisers and whether the interactive business could maintain a growth rate of 15 percent if Tribune cut online investment by 50 percent. Some of their questions exposed the banks’ superficial knowledge of the company to which they had just lent billions of dollars. At the Los Angeles Times, Jack Klunder had started paring back junk circulation, a move that resulted in reports of declining circulation, prompting Yang Chen at Citicorp to wonder what was going on: “What factors are driving this trend? Who is gaining share in these markets? Other newspapers?”
As the stock bobbed around in value and a cloud of doubt loomed over the deal, the pressure on the banks and the company increased. Bankers figured the only way that they could ditch their obligation was if Tribune failed its solvency test.
Things got pretty sticky. At Tribune, the company’s CFO, Don Grenesko, and his aide, Chandler Bigelow, had hired a Milwaukeebased company, Valuation Research Corporation (VRC), to conduct the required tests to demonstrate that Tribune would be solvent, even after it had borrowed all of the money needed for both phases of the deal. Grenesko and Bigelow authorized Tribune to pay VRC $1.5 million for its analysis—a head-turner since it was the highest fee VRC had ever charged for an opinion. The company had never done such a big complex deal and it had to turn around the opinion in a relatively short time-frame.
Not long after Tribune had hired VRC, Citicorp approached Houlihan Lokey Howard & Zukin, a competitor to VRC, and offered it $500,000 for a quick analysis of VRC’s work, a sum that Scott Beiser at the firm deemed “chump change” for something that “smelled like divorce work.” At one point, Tribune and Zell agreed to some changes in the terms of phase two after Rajesh Kapadia from JPMorgan Chase told Larsen: “We are still losing money. . . . [The Tribune board should want] a market-clearing deal not [one that] leaves a levered company with its underwriters stuffed.” Meanwhile, Zell’s company, EGI, contacted a solvency expert to analyze the analysts. They claimed that they were not trying to shoot down someone else’s work but trying to get an education in solvency process.
Tribune’s general counsel, Crane Kenney, dismissed all the claims about getting an education regarding solvency opinions. “I mean these are the most sophisticated bankers in the world who have done thousands of deals involving solvency opinions, and they say they needed a firm to understand how they work?” Kenney recalled. “The solvency opinion became this issue because the banks I think probably reviewed the credit agreement and said, ‘This thing’s ironclad. The only hope we have that we don’t have to fund these loans that we no longer want to fund is that we can somehow . . . take a shot at the solvency.’ . . . I think they were trying to get out of their obligations by trying to squeeze the solvency certificate.”
In the end, though, no one wanted to anger Zell by screwing up his deal. Ben Buettell, one manager at Houlihan Lokey Howard & Zukin, admitted that Houlihan didn’t want to be the one to blow the whistle on the deal. “If we end up where I think we all know we would end up with our analysis, we may be the ones to ‘kill the deal’ so to speak and not certain we want to be involved in that mess,” Buettell noted.
The wheeling and dealing surrounding the deal would have made great theater in the newsrooms of Tribune papers, had it played out in public. But it all took place behind the scenes far from the eyes and ears of reporters and editors who, thanks to FitzSimons’ delusions that he would still be CEO when the deal closed, were contending with other issues. FitzSimons had fallen under the spell of John Kotter, a Harvard Business School professor and consultant who had written a parable about penguins called Our Iceberg Is Melting. Kotter used the story to teach companies the ABCs of “transformative change,” one of those programs that consultants create to justify their lofty fees, and FitzSimons decided that Tribune needed to change drastically to survive.
Soon journalists saw the company’s senior management team running around with Kotter’s book preparing for a series of transformative change meetings that FitzSimons mandated. Our Iceberg Is Melting is a simplistic story about NoNo, a penguin who resists change (aka the Journalist), and Fred and Alice, penguins who embraced change (everyone else). The book sent a strong message that dissent was bad, and anyone who went the way of NoNo would end up in the drink as the iceberg melted.
The Kotter initiative had about as much a chance of rescuing the company from Wall Street as FitzSimons had of surviving Zell. Nonetheless FitzSimons summoned everyone to Chicago to attend a lecture by Kotter, the big penguin himself. When I didn’t show, FitzSimons was livid. I remained in Los Angeles to deal with some angry readers with whom Hiller had promised to meet but whom he must have forgotten about because he had gone to Chicago. I was driving to a meeting in Glendale when Caroline Thorpe, Hiller’s secretary called to relay FitzSimons’ and Hiller’s extreme dismay that I wasn’t at the penguin convention. Truthfully, I hadn’t known the meeting was mandatory and had told Hiller I would not attend. But I knew the damage had been done.
Sure enough, my failure to show up would result in yet another visit by FitzSimons and more penguin meetings. On the surface, the whole exercise seemed innocent enough. Who, after all, could argue with a company examining the way it did things to determine if the status quo had become harmful? But in months of navel gazing, the Kotter project unleashed pent-up anger in the Tribune’s management ranks, igniting a civil war within the company between journalists and the business side, precisely when we desperately needed to work together to address the problems that were dogging the industry. More often than not, the transformative change meetings devolved into acrimony, particularly at the Los Angeles Times, where journalists felt they had targets on their backs.
At one session on the first floor of the Times headquarters, managing editor John Arthur, a seasoned veteran, vigorously challenged the argument that news decisions should be affected by market rather than straight-up journalistic standards. But folks from ad sales and marketing pointed out that the Times had to change because “the consumer was now in charge.” Reports generated by the penguin initiative were loaded with phrases like “Retool Everything” and “Change the Culture,” implying that traditional journalistic standards had to go. There were meetings and pre-meetings and MBAs from marketing who asked questions like: “You said you want to improve local coverage. When should I benchmark that?” Hiller had hired a consultant to facilitate the evolving debate who kept saying everyone should “get on the bus,” until I told her I didn’t want to “get on a bus” that was heading off a cliff.
The acrimony in the ranks was nothing compared to what was playing out between Zell and FitzSimons. Soon after the grave dancer had joined the Tribune board, FitzSimons let him know who was in charge of the cemetery. By Zell’s account, his instructions from FitzSimons were, “You are on the board, you sit in the board. You don’t sit on any committees. You don’t have anything to do with it until it is a real deal.” Tensions flared again when both men went to Washington to lobby the FCC and key congressmen to support the transfer of broadcast licenses that they needed for their deal. When a reporter at the Times’ Washington bureau asked Zell a provocative question regarding his views on “current management,” he gave an extremely elusive reply. Afterwards, FitzSimons let Zell know he was dealing with someone who grew up in the same space as Joe Giaimo: “I told Sam in no uncertain terms,” FitzSimons recalled “that that wasn’t acceptable because while I was running this company, I was running this company, and I didn’t need anybody undercutting me. It was a little bit more colorful than that.” Even after FitzSimons knew he was out of the picture as the deal was about to close, he sat in Zell’s office and refused to budge, telling him: “I’m not doing anything. I’m not giving you any power until it closes, and I don’t think it’s going to close. I’m not moving because I’m not moving. If it doesn’t close, then I’m still CEO.”
For all of Zell’s in-your-face perso
na, FitzSimons couldn’t goad him into a confrontation he didn’t want. Behind the scenes, he had asked his trusted aide, Pate, to write a detailed plan outlining what the Zell team should do during the first hundred days after it had taken over Tribune. And one of Pate’s strongest recommendations was to dump FitzSimons. Pate felt that FitzSimons wasn’t taking the concerns about the solvency of the company seriously enough. In addition to getting rid of FitzSimons, Pate recommended that the company devise some plans on what it would do if the second phase didn’t close.
But Zell didn’t seem concerned with solvency issues. Zell had planned a major role at the company for Randy Michaels, a former shock jock he had met when he took over a Cincinnati radio company in the 1990s. He asked Michaels to come up with his hundred-day plan for what they should do with Tribune. The plans couldn’t have been more different.
In his blueprint, Pate urged Zell to remove not only FitzSimons but numerous other members of his executive team who he criticized for rushing to close the deal, concerned only about the bonuses they’d receive. He recommended meeting with Jack Fuller about the idea of recruiting him to a new board, a move that would signal journalism’s place in the pie. And he suggested sharply downsizing the centralized corporate staff at the Tower and delegating to executives involved in operations decision making and profit responsibility. He went so far as to suggest meeting with Burkle and Geffen to assess their interest in buying the Los Angeles Times. “If their interest is below $1.5 billion, then pass. The Los Angeles Times media group could be a real winner if separated from the Tower,” said Pate.
