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Media giants: What's new is old

Thomas Middelhoff's departure from Bertelsmann all but cements the victory of the old guard in big media after years of costly ventures by bold Web experimenters.

Internet
Out with the new.

Thomas Middelhoff's departure as CEO of Germany's Bertelsmann this week has all but cemented the victory of the old guard in big media following years of costly ventures by bold Internet experimenters.

The move immediately calls into question the future of Bertelsmann's online operations, including its efforts to resuscitate file-swapping upstart Napster. It also casts doubt on wide-ranging and expensive Bertelsmann e-commerce plays such as the joint venture with U.S. book retailer Barnes & Noble, Web retailer CDNow and the European online retail operation BOL.com.

More broadly, Middelhoff's exit completes a rout of flashy media executives who briefly sang the praises of the Internet at three of the world's largest media companies, only to lose their jobs. The departures of AOL Time Warner CEO Gerald Levin and Chief Operating Officer Bob Pittman, Vivendi Universal's Jean Marie Messier, and now Middelhoff, do not necessarily disprove the transformative effects of the Internet. But if nothing else, they underscore the idea that once-hyped changes will take effect far more slowly than the vanguard had predicted.

"If you look at the cycle of how these industries develop, it starts out with technological advances, goes through a gold rush, and then you have a classic shakeout," said P.J. McNealy, research director with GartnerG2, a division of research firm Gartner. "We're clearly in shakeout mode."


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The executive exodus comes months after it became painfully clear to almost everyone that the Net will not soon live up to its early promise --a realization that contributed to a dizzying decline in the stock prices of AOL Time Warner and Vivendi Universal over the past year. It also comes as the industry is grappling with the effects of an economic downturn that gutted advertising sales and a meltdown in the telecommunications industry that could postpone widespread deployment of high-speed Internet connections, a key stage in the industry's digital makeover.

The impact of that transformation has been felt most clearly in the music industry, which has engaged in nonstop litigation for more than two years to stem the tide of copyrighted material over the Web while fumbling in its efforts to create paid online services that could eventually replace the compact disc. Whether or not that experience proves that a revolution in the media business is inevitable, one thing is certain: A new crop of leaders is being called upon to create the blueprint for the future of the industry.

A fast fall
For all of the departed executives, the fall was fast and hard.

Like managers at AOL Time Warner and Vivendi, Middelhoff believed in the Internet as a force of painful change in the media industry. Known as a consummate dealmaker, Middelhoff gained considerable recognition for his prescient decision to invest in the fledgling America Online in 1994. The investment eventually gave Bertelsmann a $6.75 billion cash windfall and emboldened Middelhoff's belief in the Internet's power to transform media and entertainment.

Big media?s exec exodus

Numerous top executives at media giants have resigned or stepped aside in the past two years. (Dates are when departure was announced.)

Bertelsmann
Thomas Middelhoff, CEO
July 28, 2002

Andreas Schmidt, head of eCommerce Group
Nov. 28, 2001

AOL Time Warner
Gerald Levin, CEO
Dec. 5, 2001

Bob Pittman, COO
July 18, 2002

America Online
Barry Schuler, CEO
April 9, 2002

Vivendi Universal
Jean-Marie Messier, CEO
July 2, 2002

In October 2000, Middelhoff took the surprising step of investing in Napster--he eventually poured more than $100 million into the venture--which at the time was still in operation and the subject of a debilitating lawsuit launched by the music industry, including Bertlesmann's own BMG Entertainment record label.

Middelhoff then appointed former AOL Europe chief Andreas Schmidt to create a new business, the Bertelsmann eCommerce Group, centered on the digital distribution of music and media.

The idea was to combine its direct-sales efforts, such as the BMG record club, with its online distribution elements, such as CDNow and music locker Myplay.com, to sell music to Internet consumers. Schmidt became the resident Internet entrepreneur who would make risky moves to further Middelhoff's digital distribution ambitions. However, Schmidt was forced out, according to sources, after his ambitious plan ran into considerable resistance from record executives and into shifting perceptions about the Internet as the dot-com bubble burst.

Middelhoff's ambitions went beyond the Internet, as he sought to bring sweeping changes to the privately held company. He was prepping the company for an initial public offering and hoped to transform its closed culture into a more nimble operation. He was responsible for engineering key acquisitions aimed at extending Bertelsmann's global footprint--notably buying Random House, the largest book publisher in the United States, and a handful of U.S.-based print publications such as Inc. and Fast Company. He also tried to make Bertelsmann into the largest record label owner in the world by acquiring EMI, a deal that ultimately fell apart over the objections of regulators.

Behind all of these plans lay one animating idea--that the Internet was pushing the media industry toward a new era requiring bold steps and new thinking. How much of that conviction will survive Middelhoff's regime remains to be seen.

Middelhoff's replacement is Gunter Thielen, head of Bertelsmann's Arvato printing services business since 1985. Thielen, who earned a degree in mechanical engineering and economics, carries a corporate history in which operational growth mattered more than aggressive acquisitions. As the head of Arvato, Thielen ran a division that stemmed from Bertelsmann's roots, given that the company began as a publisher of Lutheran hymnbooks nearly 170 years ago.

Bertelsmann representatives in the United States referred questions to the company's headquarters in Germany, which did not immediately return calls for comment.

One source close to Bertelsmann said that that the online efforts will continue to be supported as adjuncts to offline businesses. Bertelsmann's Direct Group, which oversees much of the company's online activity, has seen most of the company's Web businesses integrated into its offline businesses, the source said. For example, CD retailer CDNow and online locker service Myplay.com are now part of its BMG music club. Retail site BOL.com has, in many European countries, become the Web site for each region's book clubs.

AOL leads the way
Middelhoff was not alone in seeking to graft a new Internet limb onto a corporate media body.

The trend started in earnest on Jan. 10, 2000, when America Online and Time Warner announced their intention to merge, sparking anxiety among some competitors that the convergence of old and new media might be far closer that anyone had guessed.

That marriage, the largest in media history, was touted by executives as a way for an old media company such as Time Warner to supercharge its businesses by harnessing them to Internet--a distribution medium that promised to cut costs while expanding reach and creating efficient new marketing channels. The Internet would be the medium that touched all of Time Warner's businesses, whether by offering Warner Bros. movies over the Net or powering Time magazine's Web site.

When many of those promises failed to materialize quickly, proponents of the deal, including Levin and Pittman, took the fall.

Although AOL founder Steve Case has survived as chairman, the online division's influence has waned considerably in the face of declining advertising revenue and worries over growth in its core ISP (Internet service provider) subscriber base.

Levin was replaced by Time Warner veteran Dick Parsons, who has continued to defend the merger even while downplaying his predecessor's emphasis on the online side of the business. Replacing Pittman, meanwhile, are Don Logan and Jeffrey Bewkes, two old media executives who are likely to further reposition the combined company as a traditional media business that just happens to have a large Internet component.

"We expect the improving trends in our traditional media and entertainment businesses to drive accelerating growth over the second half of the year," AOL Time Warner CEO Parsons said in a statement issued when the company released its earnings report last week.

Vivendi Universal's Messier also rose and fell on the wings of new media prophesies.

Messier claimed that wireless delivery of content would be the glue in the merger between French water utility Vivendi and Seagram's Universal film and music studios. Messier saddled the combined company with crushing debt loads through a slew of new media deals, including a joint venture with British mobile phone giant Vodafone and Internet acquisitions such as MP3.com and EMusic, among others.

Today the future of Vivendi's Internet division VUNet remains shrouded in uncertainty. The appointment of Jean-Rene Fourtou, former vice chairman of drug company Aventis, as Vivendi's new CEO brings an air of old-school sensibilities to efforts to tackle the company's billions of dollars in debt and turn around its junk credit rating.

Fourtou's first goal is to manage the company's debt. Vivendi has said it is planning significant divestitures, but doesn't foresee an announcement of its plans or which units will be cut until September.

"All of the businesses are under review, and the assets and shareholdings that would not be core to our strategy are being identified," Fourtou said in a statement last week. "No matter what, lowering the debt burden will require significant asset disposals."

Vivendi is already planning significant cuts in its corporate staff, particularly in the United States, where much of its Internet business units are located. Last week, French consultants hired by the company recommended the company cut about 40 percent of its staff in Paris and New York, according to a source familiar with the situation. No decision has been made whether to follow through with the suggestions.

Scared senseless?
Behind all of the shakeups lies an abiding sense that the media industry was duped by the Internet. Requests to interview executives at other companies that dipped their toes into the Internet, including News Corp., US Interactive and Viacom, were declined or rebuffed. One representative said executives are not enthusiastic about talking on the record about what are perceived as expensive Internet failures.

Now the voices of caution will get their turn. Whether they can make sense and profits in a realm that has stymied their predecessors remains to be seen.

Companies that have kept their bets in the Internet, such as Yahoo, Amazon.com and eBay, are offering surprises. Yahoo recently announced its first profit in six consecutive quarters, and it startled many by reporting it had signed up 1 million paid users. Later this summer, Yahoo will launch a DSL (digital subscriber line) service with SBC Communications. Microsoft continues to pour money into its MSN service and is preparing to launch its latest version, called "MSN8," in the fall.

The Internet may continue to be a financial black hole, but will media companies be at a greater disadvantage in five years should the industry prove its worth?

"The question really is, how are you willing to look at the Internet as a business?" said David Simons, managing director of Digital Video Investments, an investor research firm. "Everyone's still looking at it disappointedly because it isn't the next Microsoft. But that's really not the issue. The issue is, can this be a nice business?"

News.com's John Borland contributed to this report

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