Sale scenario for Reader's Digest

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A quiet storm brews at Reader's Digest Association-one that could hasten a change in its ownership.

Seeding the clouds is about 19% of the company's common stock-worth nearly $550 million-held by 13 institutions, among them the Metropolitan Museum of Art, Macalester College and the Colonial Williamsburg Foundation. Under a settlement brokered by New York Attorney General Eliot Spitzer, control of those shares, which had been administered by the Wallace-Reader's Digest Funds, will shift to those institutions later this summer.

The funds were established shortly before RDA founders DeWitt and Lila Wallace's deaths in the early 1980s. The restrictions placed on the institutions they endowed with stock essentially prevented them from selling shares.

About 50% of RDA's voting shares remain in the funds' control. The endowed institutions' 19% stake is made up of nonvoting shares. That stake soon will be in the hands of active shareholders, whether the institutions hold the stock or-as universally expected-sell over a prearranged 18-month period.

The upshot? "It creates a need to act," said one executive with knowledge of the company.

The storm scenario: Despite management's recent successes at RDA, questions of its long-term viability as a stand-alone company remain. And a 19% stake that had been held by passive charities now could end up controlled by active shareholders clamoring for action in an environment unfriendly to growth.

CEO Tom Ryder has won plaudits for his stewardship since taking over in April 1998. Operating profit rose from around $100 million from fiscal year 1998 to what investment banker SG Cowen projects to be $328 million for fiscal year 2001. But the stock remains stalled in the high 20s-closing last week at $28.48, well off its 52-week high of $41.88-roughly where it was when Mr. Ryder arrived. One observer suggested recent share jumps were triggered by rumors or reports of a potential sale.

Mr. Ryder is leaving options open. At the right price, he said, a deal is "a good thing for shareholders, and at the wrong price it's not going to happen."

Regarding the shift in control of the 19% stake, he said, "It's almost guaranteed there will be unforeseen [consequences.] Am I worried? Not particularly."

Secular factors won't help. The economy continues to drag down media properties, and postal rate hikes hurt RDA's domestic direct-mail operations. And no matter how the stock transactions are managed, they "could provide a short-term pressure on the stock price," said SG Cowen analyst Edward Hatch.

RDA's market cap is just under $3 billion, and a low price-to-earnings ratio could make the company a takeover target were it not for the votes controlled by the funds. Still, said the executive close to the company, "If you're speculating about who could get acquired, [RDA] is in the `yes' category."

In a flank-protecting and stock-bolstering move, RDA's board authorized $250 million for stock buybacks, which may be done as institutional stock hits the market or negotiated before that happens.

Few companies match RDA's modus operandi, which, despite its famed flagship, may be better understood via a direct-mail rather than a media company model.

Broad-based partnership talks that began with Time Inc. in 1999 and in 2000 with Bertelsmann stalled. And despite Mr. Ryder's success in cutting costs and boosting profitability, concerns over RDA's long-term growth remain.

"Longer term, it's probably a more valuable company partnered with a Bertelsmann, Hachette [Fillipacchi], or AOL Time Warner," Mr. Hatch said.

Mr. Ryder's comments hint he, too, may see a broad partnership-perhaps one so broad that others may call it a merger-as the way to ensure RDA shareholders' returns.

"We can build it or buy it or partner it," said Mr. Ryder, referring to shareholder value. "Building takes a long time, and buying is expensive."

The bigger question is whether RDA's most likely suitors-AOL Time Warner and Bertelsmann-remain enamored. AOL Time Warner declined comment. A Bertelsmann spokeswoman did not return a call.

Last fall, Mr. Ryder told Ad Age: "If we don't do something [in fiscal 2001], someone's sleeping."

RDA's fiscal 2001 ends June 30.

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