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Reader’s Digest in Pain—Will Prescription Work?

Even in Pleasantville, the news gets bleaker by the quarter. Back in the fall, the Reader's Digest Association, the publishing and direct-marketing behemoth based in the Westchester County hamlet, posted an operating loss of $337 million for fiscal 2008.

After a steady stream of credit-rating downgrades, Moody's placed the company on "The Bottom Rung"—its list of companies most likely to default on their debt. And earlier this month, Bloomberg reported that RDA had retained Kirkland & Ellis' bankruptcy practice to "explore" restructuring options, including bankruptcy.

Readers Digest
Readers Digest

President and CEO Mary Berner, who's been at RDA's helm ever since the company's leveraged buyout two years ago, tossed a bucket of cold water on the bankruptcy rumors. In a memo to the media, she wrote that the company was moving forward with a hard-times "Recession Plan" but promised that any bankruptcy talk was balderdash. "We continue to meet our debt covenants," she soothed, "and in no way are we in default under our financing arrangements."

That's probably temporary. Under the terms of its loans, the company must meet progressively more stringent conditions to demonstrate its ability to pay down debt, with one hurdle in June and another a year later. With revenue falling, the owners of Reader's Digest have a strong shot at meeting their June number through wrenching budget cuts. But even from a distance, 2010 isn't looking good: Despite aggressively reducing its costs, the company's debt has recently traded as low as 7.5 cents on the dollar.

"The noose is tightening," says Moody's media analyst John Puchalla.

For years, RDA was known to be a foundering operation. In 2007, when the company was sold for $2.4 billion to a group led by Ripplewood Holdings—a private-equity firm best known for its turnaround of Japan's Shinsei Bank earlier in the decade—that foundering operation became saddled with enormous debt. Its tab with creditors has now reached its highest level ever, a princely $2.1 billion. Last year, the company's interest payments alone were $160 million.

But while other publishers are heaving their losing titles overboard during the storm, RDA is doing the unthinkable: It continues to launch new magazines. Last month, the company premiered Fresh Home, a quarterly shelter mag aimed at DIY-minded couples, and in the coming months, RDA will debut Best You, a health-and-lifestyle glossy for fortyish women. Conventional wisdom says that the belt-tightening mood of the day is toxic for such a launch; Meredith's Country Home went under this year, promptly followed to the crypt by Condé Nast's home magazine Domino. Berner seems to be betting that, like RDA's bright spot Every Day With Rachael Ray, her budget-minded new magazines can defy the odds.

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And why stop there? The company has teamed with Saddleback Church megapastor Rick Warren in a print-and-social-networking hybrid called the Purpose Driven Connection, which dropped its first glossy magazine issue in January. The Web component has been billed as a pay-to-play "Christian Facebook" for those who prefer prayers to pokes. If the company seemed overextended a few months ago, how does one describe it now?

Still, the rollout may not be as nutty as it seems. RDA spokesman William Adler says Best You and Fresh Home are a way to test markets on the cheap, with both magazines taking broad advantage of what's euphemistically called "repurposed content," which is material RDA borrows from its own foreign titles. In fact, the move so effectively slashes costs that a group of U.S.-based freelance writers—an otherwise docile tribe that normally takes its humiliations in stride—is organizing a boycott of the publications. The company will pay a premium for the Warren vehicle, but the payoff potential there is far greater. And complications from the recession might be overstated, as magazines still require months or years to build a meaningful following, anyway. After all, Fortune launched four months after the stock market crash of 1929.

RDA may have no choice but to reach for new markets, considering its old models—and its old audiences—are going the way of the analog television. Founders DeWitt and Lila Wallace built their publishing empire around the flagship magazine, which they launched in 1922. The pocket-size pub—with its condensed and softhearted articles—gradually became the highest-circulation magazine in the world, topping out at about 17 million in the United States in the mid-'80s. As its operations grew, the company's greatest asset wasn't ad space so much as addresses: Its subscriber lists served as a massive marketing portal into wealthy homes throughout America and beyond into which they flushed books, movies, and sweepstakes.

Eventually, Aunt Mildred and Uncle Harry grew tired of the solicitations. The strategy began to falter in the '90s after RDA went public, and the company hasn't quite regained its footing since. The Wallaces' legacy was literally eroding well before the Ripplewood acquisition, as the company began selling off much of the couple's antique furniture and fine art, including Renoirs and Monets, about a decade ago.

As for the Wallaces' Digest itself, which, along with the overseas versions, accounts for about 15 percent of the company's business, its readers haven't been heading to the Web so much as to the grave, with its U.S. base circulation rate having dropped to about 8 million these days. (To squeeze more pennies out of the magazine, Berner has taken its back page, which was traditionally reserved for artwork, and sold it to advertisers.) Fortunately, RDA's magazines generally aren't advertising-dependent, but as circulations fall, presumably the company's direct-marketing powers fall with them.

LAYOFFS AND 401(k) SUSPENSIONS

The post-buyout fat-trimming has brought some expected turmoil. According to three former RDA employees, Berner had to pay hefty severances to free up high-level positions from previous management; those slots were filled with well-compensated new hires, some of whom promptly bolted anyway. Those former employees all point out that current Digest Editor Peggy Northrop and some other new hands were being driven to and from the suburban offices in Town Cars each day, even as the company started looking into restructuring—perhaps the sign of a disconnect between the new, Manhattan-bred executives and the old-fashioned, hidebound ways of Pleasantville. As one of them the former employees says, "Most people who get Reader's Digest don't get rides to work every day."

In January, the company announced it was canning 300 employees, or about 8 percent of its work force, most of whom probably found little comfort in the Digest's March pick-me-up story on "how to make a layoff pay off." And along with General Motors , Coca-Cola , and others, RDA's weakening outlook has forced it to suspend contributions to employees' 401(k) programs.

Hence the gamble on Warren, which one sacked editor describes as "really shrewd and scary." The RDA executive spearheading the Warren project, Alyce Alston, had launched the hugely successful O magazine while at Hearst. As with Oprah, RDA is hoping that Warren's wide-reaching brand of evangelism can turn Purpose Driven Connection into not just a magazine but a "community," crossing media platforms, much like they've done in building a foodie society through their Allrecipes.com site and the Rachael Ray brand. "We have shot high on that one," Adler, the spokesman, says of the Warren product. "And we didn't skimp because of the recession."

To better align with the new ventures, RDA plans on renaming the company, allowing the company's other ventures to escape from the shadow of the flagship Reader's Digest brand. The title and its international editions will have their "own world," Adler says.

With its mounting debt, the company may be longer on vision than on time. But the publishing industry's general duress may give the heavily leveraged company some bargaining power. While its creditors may wish they'd passed on RDA debt, analysts like Moody's Puchalla still give good marks to the company's management and strategy. Even if the company's capital structure is unsustainable, the prospect of railroading the company into bankruptcy or halting Berner's and Ripplewood's restructuring efforts won't be appealing.

Just as RDA is facing some hard choices, its publications are looking to sound a hopeful note. Adler says RDA won't be infusing its publications with a Christian flavor across the board. Rather, the company's editorial content will list more generally toward the feel-good and uplifting: kids beating cancer, women shedding pounds, Arabian horses being saved from starvation. Perhaps that's just what readers are looking for these days. But barring a miraculous turnaround in Pleasantville, the company may find that the only signs of inspiration in a tumbling economy lie inside its own magazines' pages.