Sam Wastes Time and Money in a Dying Industry

Methods of Prosperity newsletter is intended to share ideas and build relationships. To become a billionaire, one must first be conditioned to think like a billionaire. To that agenda, this newsletter studies remarkable people in history who demonstrated what to do (and what not to do). Your feedback is welcome. For more information about the author, please visit seanallenfenn.com/faq.

Last week on Methods of Prosperity

Sam Zell owned Equity Office Properties Trust (EOP). He believed EOP was too large to sell. Unsolicited offers began in 2005. A bidding war for EOP changed his mind. He prioritized his shareholders’ returns. The Blackstone Group finalized a record $39 billion acquisition of EOP in 2007. It was right before the 2008 financial crisis.

Zell always assessed downside risk first. His experience with Carter Hawley Hale Stores, Inc. exemplified this. He managed to limit his loss to 20%, exactly what he anticipated. Besides having a stop loss, know your operational risks and unknown risks. A Black Swan event can wipe you out. After the attack on 9/11/2001, American Classic Voyages, Zell’s cruise line, went bankrupt. Zell's strategic awareness includes “hometown” bias. His experience with a failed bid the Rockefeller Center gave him insight. He passed on the opportunity to buy the World Trade Center in 2001.

Sam Zell avoided investing in the dot-com bubble. What he didn’t realize is that the internet would disrupt newspapers. That’s when he decided to make his next big acquisition.

Do you know about my livestream podcast? It’s called Hidden Secrets Revealed Live (HSRL), and I record it live on 𝕏 every Wednesday. 

Part 85. Sam Zell (conclusion).

You can find this week’s TL;DR here.

Key Lessons:

• Recognize when industries become obsolete.

• Avoid “we’ve always done it that way”.

• Beware of inductive reasoning.

• Beware of false cause fallacy.

• Beware of gambler’s fallacy.

• Avoid static culture.

• Your time is limited.

Now there’s a collectible version of this newsletter! Methods of Prosperity newsletter number 48 is available to collect as of January 26, 2025. If you’re so inclined you can permanently own it!

The reason I write this newsletter is to analyze what billionaires do, and try to grasp their mindset. We notice what they do right and what they do wrong. Sam was wise, but he wasn’t perfect. It was the beginning of the information age. The dot-com bubble had burst, and Sam ignored the technology (with a few exceptions). Imagine buying a big newspaper when the internet was about to disrupt the business. In 2006, a 159 year old media conglomerate was looking for a buyer.

The media conglomerate, Tribune Company, had an impressive portfolio of brands. Which included the Chicago Tribune, the LA Times, the Baltimore Sun, NY Newsday. Besides newspapers, it included WGN America, TV Food Network, and 23 television stations. It included websites like cars.com and careerbuilder.com. It also included the Chicago Cubs.

The newspaper industry was struggling. Zell saw the acquisition as a potential turnaround opportunity. He believed that newspapers still had a future. He believed he could revitalize them with the right management and strategy. All other bidders dropped out.

Sam’s team offered a proposal to sponsor a private transaction. It would be through an employee stock ownership plan (ESOP). Under the terms of the deal, they would acquire outstanding shares for cash. Upon completion, the ESOP would hold 100% of the company’s stock. Tribune would be an employee owned company.

Sam invested $315 million in exchange for a $225 million subordinated promissory note. That would grant his team the right to buy 40% of Tribune’s equity in the future. The deal wouldn’t require the employees to invest anything in the ESOP. This structure would shift all eligible employees to an ESOP stock vesting schedule.

Terms of the deal froze the pension plan for new hires. It was active only for grandfathered employees. Terms created a new retirement vehicle which included more employees later. They brought in a third party ESOP trustee to represent employees in the negotiation.

There was also a tax incentive that saved the company hundreds of millions of dollars. The proceeds of which could go towards the debt service and operations. The deal converted Tribune Company to a Subchapter S corporation. These tax advantages allowed Sam to outbid rival suitors. After a 10 year holding period, the ESOP wouldn’t have to pay capital gains tax on asset appreciation. That 10 year holding period was a trade off. The ESOP, the company and any investors, including Sam, wouldn’t realize the benefits for 10 years. Few investors wanted to wait that long for full upside.

Who could run Tribune Company’s businesses better than the previous management? Sam Zell believed he could. Sam believed he could implement innovative strategies to turn the company around. He aimed to inject new life into what he saw as a “moribund corporate culture”. After all, look at his track record, right?

Inductive reasoning is a logical fallacy. This is a kind of generalization. We make conclusions or theories based on specific observations and patterns. For example, the sun will rise tomorrow because it has risen every day before. Every time you eat at a particular restaurant you get excellent service. Therefore, the restaurant always provides excellent service to all customers.

In the same way, we tend to assume that because a deal worked out for us in the past it will work out for us in the future.

The gambler’s fallacy is related to inductive reasoning. Past random events don’t influence the probability of future outcomes. Each event is independent. Beware of this error in your reasoning. 

Zell's acquisition of Tribune Company proved disastrous. The deal saddled the company with $13 billion in debt, leading to bankruptcy within a year. Was it the economic recession? Was the declining newspaper industry to blame? It could have been the questionable management decisions. What caused the failure of Zell’s ambitious plan for Tribune Company?

False cause fallacy (also known as questionable cause) is a logical error. It occurs when someone claims that one event causes another without proper evidence. It’s an informal fallacy. This means the error lies in the reasoning about real-world events. That is, rather than in the structure of the argument itself.

For example, a grey alien from Beta Reticuli might observe that you eat breakfast in the morning. Our little grey friend assumes that waking up in the morning makes you hungry.

My point is that Sam did the best job he could do with the information he had. It’s not his fault that the internet killed the newspaper business. There’s been a significant decline in print newspaper circulation and readership. Technology has transformed the newspaper industry since the 2000s. Weekday circulation of U.S. daily newspapers dropped from 55.8 million in 2000 to 24.2 million by 2020. This is an estimation by the U.S. Census Bureau.

Newspaper Publishers’ revenue in 2020 was less than half of what it was in 2002. It fell from $46.2 billion to $22.1 billion. Digital-first publications like BuzzFeed and Huffington Post emerged by the mid-2000s. The trend was forming, but Sam Zell didn’t notice it. Today, 86% of Americans read news on digital devices. That’s an estimate from 2021. Paper newspapers are obsolete, aren’t they? The survivors turned into online editions, mobile apps, and digital subscriptions. People access and interact with news on the internet. Social media platforms have become significant sources of news distribution and engagement. Sam couldn’t have seen that coming. Since the 2000s, newspaper firms’ revenues by-and-large fell by almost 30%. This is from a study titled How the Internet Changed the Market for Print Media (2023). Newspapers have had to explore new monetization strategies. This includes paywalls, digital subscriptions, and online advertising. Tribune had never placed banner ads before. At the time, they considered it a desecration. Sam Zell introduced these practices to a degree at Tribune. They’ve since become standard.

Sam’s plan was to have 20% of Tribune’s debt paid down in 5 years, and 50% paid down in 10 years. On April 1, 2007, the Tribune board accepted the bid. Zell acquired Tribune for $34 per share, $8.2 billion total. The deal closed on December 20. Sam prepared for the downside with conservative underwriting. By Q1 of 2008, newspaper ad sales rates across the industry plummeted. This was worse than expected. By Q3 of 2008, broadcast ad sales were in the toilet.

“We’ve always done it that way”. That’s the phrase that kept coming up as the employees resisted change. That’s a stagnant mentality – the antithesis of progress. But that’s what Sam was up against. He recognized the talent of the staff, but they lacked a dynamic attitude. He wanted them to have a more entrepreneurial spirit. He wanted to innovate, but came off abrasive. They didn’t appreciate the challenge.

Sam received a lot of criticism for the way he tried to change the Tribune. He used harsh language in an effort to disrupt the status quo. Employees didn’t want to change. Without a serious wake up call, Tribune and all newspapers would fail. He may have been wrong about the investment decision. He wasn’t wrong that complacency is bad for business.

On December 9, 2008, Tribune filed for Chapter 11 bankruptcy protection. Sam stayed on as chairman throughout the 4 year bankruptcy process. Tribune emerged from bankruptcy in late 2012. Senior lenders owned the company.

Sam Zell insisted that the deal wasn’t a mistake. He made the best decision with the information he had at the time. Time is most important. It’s more valuable than money. You can get your money back, but you can’t get your time back.

In conclusion, Sam Zell died on Thursday, May 18, 2023, at the age of 81. He passed away at his home in Chicago due to complications from a recent illness. Sam Zell’s estimated net worth was between $5.2 billion and $5.3 billion. 

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– Sean Allen Fenn

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