Private equity and human capital

Why PE takeovers of media companies keep going wrong

Monday morning, Verizon announced that will sell AOL, Yahoo, and other media properties it had amassed over the years to private equity firm Apollo Global Management for $5 billion.

Following its sale of Tumblr to owner Automattic in 2019 and the move to unload the Huffington Post onto Buzzfeed last fall, this latest deal would result in the final unbundling of media brands Verizon had once purchased for a combined $9 billion. 

After a writeoff of $4.5 billion related to the media brands in 2018, the Apollo deal would essentially wipe those properties off its books, and it would allow Verizon to re-focus its business on voice, data, and video services provided over its wireless and fiber-optic networks.

Apollo, meanwhile, would gain access to a portfolio of brands and an ad network accessed by 900 million people and booked $1.9 billion in total revenue in the first quarter of 2021. But if not handled well, a takeover by Apollo—or any PE firm really—could be a devastating and demoralizing blow for the people working at those brands.

Full disclosure: I used to work at TechCrunch, which is one of the properties in the media bundle Verizon is unloading. I have many friends and former colleagues who still work there that I talk to regularly. And while I have a general sense of what the on-the-ground, in-the-trenches workers at TechCrunch might feel about the sale, I have no special knowledge about the structure of the organization after the sale or what Apollo’s plans are for the Verizon Media properties. (Nor do they, frankly.)

That said, over the years I’ve seen many deals like this and have a pretty good idea of what to expect. And what I’ve come to expect from an agreement of this nature does not bode well for the future of those media properties or the people who work for them.

The PE imperative

The business model for private equity firms generally goes like this: 

  1. Take over distressed or underperforming assets, 

  2. Introduce new management and institute financial controls to make the ailing business profitable (or more profitable), and 

  3. Cash-in by exiting through an IPO or selling the assets to another acquirer for a quick profit.

The critical thing to recognize is that private equity is not generally in the business of creating long-term value for stakeholders, but rather executing quick turnarounds of underperforming businesses. Not surprisingly, the fastest route to profitability is usually by cutting headcount, which oftentimes results in substantial job losses among target companies.

A 2019 HBS working paper found adverse economic effects after studying 9,800 U.S. private equity (PE) buyouts from 1980 to 2013: 

“Employment at target firms shrinks 13% over two years in buyouts of publicly listed firms but expands 13% in buyouts of privately held firms, both relative to contemporaneous outcomes at control firms. Labor productivity rises 8% at targets over two years post buyout (again, relative to controls), with large gains for public-to-private and private-to-private buyouts... Average earnings per worker fall by 1.7% at target firms after buyouts, largely erasing a pre-buyout wage premium relative to controls.”

In short, buyout targets generally can expect reduced headcount and lower earnings, while the PE firm benefits from higher productivity. But the outcome for media companies is often worse than the typical buyout scenario. The reason for this is the unique nature of media work, which private equity tends to discount.

Media-specific human capital

In macroeconomics, the concept of human capital usually refers to the “stock of skills that [a] labor force possesses” and primarily relates to the education and training a workforce has attained. As it relates to economic theory, researchers have tried to draw a correlation between a nation’s or a company’s investment in education and workforce training and the productivity and profitability resulting from the human capital they accrue.

In the media world, human capital includes not just general journalism training, but a writer’s network and social relationships, the knowledge they’ve acquired around a particular subject or beat, institutional knowledge of the organization, and an understanding of their readership and audience, not to mention what that audience expects when they open a publication.

In general, workers are most valuable in their current jobs because they have already acquired the knowledge, skills, and instincts. That’s not to say that they couldn’t perform a similar role at another organization, or that they are irreplaceable in the role that they are in. But it does mean that anyone who steps in to do the same role without the same background and institutional knowledge is bound to not do the job as well.

The problem with private equity is that in optimizing for profitability, it doesn’t take into account the human capital its target companies have amassed. 

There are numerous examples I can point to in illustrating this point, but for this post, I’m going to settle for two: Alden Global Capital’s treatment of the Denver Post and other local media properties, and Great Hill Partners’ mishandling of the G/O Media properties (i.e. Deadspin).

Strip mining local news

Hedge fund Alden Global Capital acquired the Denver Post as part of its purchase of bankrupt MediaNews Group in 2010, which now runs through its Digital First Media subsidiary. Since the acquisition, Alden has been accused of “strip mining” the Post and other news organizations it owns, which directly led to open revolt among the Denver Post newsroom after yet another round of layoffs in 2018.

Due to reductions in circulation and ad revenue, local newspapers around the country have been hit hard by the transition to digital media, leading to layoffs industry-wide. But as the Washington Post reported last year, the cuts at Alden-owned properties go beyond the industry norm.

“In the decade-plus Alden has been in the newspaper industry, the number of employees at U.S. newspapers has been cut in half, according to Pew Research Center. But Alden’s cuts have been far deeper — more than 70 percent of unionized staff, according to data from the Communications Workers of America union — and its circulation losses steeper, according to Alliance for Audited Media.”

The result is an almost zombie-like approach to covering local events that is bad for newsrooms and communities alike. From the same WaPo profile of Alden Capital president Heath Freeman:

“This is what Freeman's approach to saving the newspaper business looks like in St. Paul, Minn.: A local sheriff blew his budget by $1 million and there was no Pioneer Press reporter available to cover the county board meeting. In San Jose: There was no reporter on the education beat at the Mercury News when the pandemic started closing schools. In Denver: In the aftermath of the 2012 Aurora movie theater mass shooting, the editor was asked to slash staff to improve the next month's budget numbers. In Vallejo, Calif.: There is exactly one news reporter left at the Times-Herald to cover a community of 120,000 people.”

But it’s also bad for business. In an article called Finance Is Killing The News, The New Republic reports: 

“Because newspaper earnings have fallen, they are cheap for private equity firms to buy. These firms can then juice profit margins by cutting staff. Meanwhile, the debt prevents newspapers from reinvesting profits into rebuilding their newsrooms. Instead, staff cuts continue as papers try to meet impossible profit goals. And because staff cuts prevent papers from covering important local issues—or, sometimes, even just the basics, like city council meetings and sporting events—circulation drops further, making them irrelevant and unattractive to other buyers.”

Alden is a particularly egregious example of a PE firm murdering its media properties by a thousand cuts. By constantly reducing staff and asking newsrooms to “do more with less,” Alden ignored the value of the human capital those organizations had, in lieu of whatever profit it could squeeze out of a media asset.

Deadspin, Deadspun

In April 2019, PE firm Great Hill Partners purchased the Gizmodo Media Group assets, rebranded them G/O Media, brought in new management, and oversaw one of the fastest implosions of a private equity media acquisition ever seen.

The digital media properties Great Hill acquired included Deadspin, Jezebel, Kotaku, Lifehacker, and Gizmodo, which had all originally been a part of Gawker Media before that company was kneecapped by Peter Thiel and Hulk Hogan and plunged into bankruptcy.

Within six months, the entire editorial staff at Deadspin had walked off the job in protest, after multiple run-ins with the management revealed that Great Hill and G/O Media CEO Jim Spanfeller had little regard for the editorial ethos that made those properties great and even less regard for the human capital that powered them. 

As one postmortem of the site noted, “Deadspin was, by all accounts, beloved, sustainable, and efficiently operated for years prior to Great Hill’s acquisition. Insiders at the company describe a turnkey operation that could have operated successfully for years to come.”

Meanwhile, internal assessments of what went wrong mainly point to the new management trying to boost traffic and using a worn-out playbook for cheaply boosting page views, and thus juicing monetization. 

“Jim Spanfeller, the CEO of this company, meanwhile, is best known for growing in the mid-2000s, around the time this website was born. While he was not responsible for the “contributor network” that made Forbes a journalistic laughingstock, he set the stage by demanding increased output at all costs (up to 5,000 stories a day by the end of his tenure). The clickbait and SEO plays and sleazy monetization schemes rejected by Gawker Media were the entire point. Content mills The Active Times and The Daily Meal, which Spanfeller launched and later sold to the Tribune Company at a trivial price, ran the same playbook, and many of his ideas for growing revenue at this company (implementing slideshows to juice pageviews, clogging story pages with ever-more programmatic ads at the expense of user experience) were taken straight from that era—more than a decade ago, or approximately an eon in internet time. The only idealistic belief at Gawker Media was that a journalistic enterprise could make money without scamming people; the guiding principle at Forbes and sites of its ilk was that scams are good as long as they make money.”

The new management implored the staff to stop what they were doing—which was working, by the way—in an effort to narrow the scope of the operation to just focus on sports, a strategy former editor-in-chief Megan Greenwell rightly predicted would alienate readers and reduce revenue opportunities. 

After a drastic dropoff in traffic and a period of operating without any updates, Deadspin is back to posting and following the edict of sticking to sports. But the current Deadspin is a shell of its former self, and you have to wonder how much of its old audience has stuck around in the interim. All of which raises many of the same questions Greenwell was asking while all of this was going down:

“Great Hill Partners is correct that an opportunity for huge profit exists here, too, but they want a quick cash-out rather than the growth that comes from a well-run business. This makes no sense on its own terms—who gets into media to turn a fast buck?—but more than that betrays a curious lack of greed. Who would squeeze publications to save thousands of dollars here and there when hundreds of millions are on the table?”

The myth of monkeys at keyboards

The fundamental issue with private equity fundamentals is that their models are built around financial outputs with little understanding of the human capital that drives its inputs. 

It assumes that operating a business with a 10 percent lower headcount will have only a marginal effect on subscriptions or advertising dollars, and will therefore make the business more profitable. It assumes a site that just sticks to sports will bring in as many eyeballs as one that is brave enough to critically cover its own leadership. It assumes that entry-level journalism school grad will perform nearly as well as the grizzled journalism veteran—and at half the salary.

In short, it assumes that given enough monkeys at enough keyboards and you someday will arrive at the Complete Works of Shakespeare—or a facsimile close enough that you’ll get roughly the same number of eyeballs reading it.

What these models fail to take into account is that the inputs do matter and that there’s no accounting for the passion, training, or institutional knowledge that you lose when you cut 20 or 10 or even 5 percent of staff. They fail to take into account that once you’ve begun to demoralize a staff, you lose the most talented among them first—and good luck recruiting someone half as good to take that person’s place.

Coming full circle

Every media acquisition is sealed with celebratory words of the great things the new partners can accomplish together. Promises of new investment, promises of new opportunities, promises of solving some of the problems the old leadership ignored for so long. 

For certain parts of the new Yahoo, I’m sure this will be true. But for others, I worry about what happens when talent is seen as a cost center and an easy cut.

I don’t know what a PE buyout will mean for the old Verizon Media Group, but I hope for the sake of my friends there that the new ownership will heed some of the lessons above. Mainly I hope Apollo understands it’s not just buying a bunch of line items on a balance sheet.