Dialogue: Strauss Zelnick

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NEW YORK -- ZelnickMedia has been in the headlines as of late as operator of video game firm Take-Two Interactive. But the firm, launched by former BMG CEO and 20th Century Fox president and COO Strauss Zelnick in 2001, has invested in a range of companies, including media agency ITN Networks, online research firm OTX and Japan-listed indie label Columbia Music Entertainment.

While many media and entertainment stocks have been under pressure in recent years, ZelnickMedia's investments have shown an internal rate of return of more than 30%, according to sources. Zelnick spoke to The Hollywood Reporter's NY bureau chief and business editor Georg Szalai.

The Hollywood Reporter: How do you choose investments?
Strauss Zelnick: Typically we're looking for companies that are exposed to new digital media where we think that the opportunity is - although not always - in front of the company. When we got engaged in our record company Columbia Music Entertainment, it had a great brand, a somewhat challenged operating history and a terrific catalog. The oldest and deepest catalog of recordings in Japan. Today, nearly 10% of that company's revenue comes from digital. The other thing we look for often is some management need for us as operators to run the business more effectively.

THR: How do you provide that management expertise?
Zelnick: We have 10 professionals here. There are five with strong operating backgrounds and five with strong finance backgrounds. We make sure we put a team that includes an operator and a finance expert on every deal. We try to align our backgrounds and passions with the investment at hand, which enhances our ability with the operating teams. Otherwise, you're just wasting time and not creating value.

THR: Do you see yourself as an investment firm or what?
Zelnick: We see ourselves as a new kind of diversified media company. Our balance sheet looks different, but we run our businesses as a diversified holding company of high-growth media assets.

THR: With recession fears out there and the credit crunch, how does that affect your investment decisions?
Zelnick: We didn't benefit from the credit boom, because we don't like to put a lot of leverage on our assets. We like to sleep at night. Because we're seeking high-return deals, the return enhancement you get through significant leverage really doesn't add much for us. But it does increase the risk, and we're pretty risk-averse people. Many of our companies have no debt and they do have cash on the books. So, when the credit crunch occurred, I slept through the night like a baby.

THR: You usually partner on deals...
Zelnick: We have always had partners who have supported our activities. We now have raised our own fund, so we have direct investment capital available as well. But we are really proud of our relationships in the finance community, and that allows us to do rather small deals and very large deals. There are investors who have huge pools of capital, and it doesn't pay for them to do a small deal. We are very happy doing a small deal if we think the profit opportunity is there.




THR: How happy are you with your investment success?
Zelnick: We have a track record of creating value. And we have never suffered a loss.

THR: Which sectors of media do you like?
Zelnick: We are very, very excited about interactive entertainment. It's really the only growth area in the pure entertainment business. That's why we're in the Take-Two deal. That will be a really exciting field for the foreseeable future. Wireless is interesting, too. And any kind of business opportunity related to knowing who individual members of your audience are, having a direct relationship with them and creating a transaction with them is pretty interesting. We think the business is really morphing from a one-to-many business to a one-to-one business, and we tend to think that way about everything we do.

THR: You mentioned you are always looking for digital opportunities. The big media companies are still experimenting in this area. How do you know you have the right approaches?
Zelnick: I have a lot of respect for management of big media companies, and it's much harder to turn around a battleship than to build a day cruiser. With (Bob Pittman's) Pilot Group, we bought OTX, a leader in the nascent field of online market research. There are only two companies doing that. So, we got in on the ground floor. We didn't have to recreate a legacy company. We also tend not to have to worry about destroying value in other operations. A large company like Time Warner has an obligation to steward its many traditional media operations as it exposes itself to new media. I think they have done a phenomenally sound job, even though the bulk of their revenue is still from traditional media.

THR: Take-Two has been in the headlines with your rejecting a takeover offer from Electronic Arts. Are you open to a deal if they come back with a higher offer?
Zelnick: We are here for our shareholders. They made a (specific) proposal, we rejected it. Next!

THR: Many industry experts see value in gaming consolidation. Do you see value in a combination?
Zelnick: I think we can expect consolidation. I'd rather not speculate on the nature of value creation. It has a lot to do with the capabilities of individuals and the goals of employees. This is not just a math lesson, this is a creative enterprise. Does consolidation create better games for consumers? Does it create better careers for the creatives? Those questions are just as important. If all stakeholders aren't taken care of, then none of the stakeholders will benefit. We've been at Take-Two only for 10 months and are really proud of the progress we've made. And we think this company has a really bright future as an independent company. In the absence of an opportunity that our shareholders value more than this approach, that's our business model.

THR: What lessons did you learn at BMG?
Zelnick: Most people felt we were at the forefront of the digital revolution. That said, we didn't do a very good job at building a legitimate digital alternative for consumers as quickly as we could have or would have. That helped drive people to piracy. The movie business has done a much better job at beginning to create legitimate alternatives for customers as has the interactive entertainment business.

THR: How interesting are international investments for you?
Zelnick: We've done a deal in Japan and one in Canada. We're very comfortable with international investment opportunities if we have hands-on experience on the ground. What we don't do is invest in areas that seem exciting and rapidly growing, but we have no experience or are not on the ground. For example, everyone is very focused on India. There is obviously an enormous consumer economy and terrific opportunity, but we have no people on the ground. Historically, there have been a lot of regulations related to investment. So, you are taking country risk in addition to investment risk. So, we'd be very careful about investing in India and China, although we have operations there now.




THR: Could there be more opportunity for you in China down the line?
Zelnick: Sure. We're going to build expertise there.

THR: When you consume media these days, what do you like?
Zelnick: My philosophy about consumers is most people consume the same media they enjoyed when they were 17 for the rest of their lives. I listen to music, I watch TV shows I like, I watch movies. I am engaged with electronic media, but I don't, for example, spend huge amounts of time on social networking sites. Contrast that against my kids, who watch a lot of YouTube and tend to consume more bite-sized entertainment. They listen to a song, while I listen to an album. They watch a movie on a very big or very small screen. The nature of consumption is changing rapidly, but generationally. That is why the average gamer is 33 years old, because video games are 25 years old essentially. People who grew up with them still enjoy them to this day. This graying of the video game demographic is another reason why we're benefiting from so much growth.

THR: Where do you stand on the old debate of content versus distribution in media and entertainment?
Zelnick: I still think people can make money in distribution, over time the whole notion of aggregation as a value creation device is mitigated significantly by very broad distribution. Today you can get to the home through satellite, cable, phone lines, electrical lines and there will be other ways as well. So, eventually, the pipe has to be less important than what the pipe carries.

THR: Private equity has been prevalent in media and entertainment, but now some predict strategic players will be more important again in deals. What do you foresee?
Zelnick: I think the big corporations are exceedingly important. They have huge balance sheets and big appetite. They have been burdened by their declining multiples. But now their multiples are low enough that, arguably, it frees them to do things they couldn't do before. The pressures that Wall Street puts on big media enhances their ability to make creative choices about their portfolios. The best are realigning their interests toward digital media. Equally, there is a lot of capital in private equity and hedge funds. Ultimately, it's the combination of money and talent that moves the dial.

THR: Have any of the assets you own surprised you particularly on the upside or downside?
Zelnick: Our portfolio has performed extraordinarily well. I'm really proud of that. OTX just completed another record year. ITN is very successful and showing a lot of growth, and I think, we'll see ITN expose itself to Internet advertising shortly. And we feel terrifically good about how things are going at Take-Two and Columbia Music. So, we have no complaints. When I used to do my budgets for Rupert Murdoch and Barry Diller at 20th Century Fox, I used to say one thing I can promise you is however things will turn out, it won't like this budget. All you can do is know your downside risk, and we try to mitigate that and enhance the upside. We have had no surprises on the downside thankfully, and we have had some very happy experiences on the upside. That's all you can wish for.
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