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REILLY v. HEARST CORP.

July 27, 2000

CLINTON REILLY, PLAINTIFF,
V.
THE HEARST CORPORATION AND THE CHRONICLE PUBLISHING COMPANY, DEFENDANTS.



The opinion of the court was delivered by: Walker, District Judge.

FINDINGS OF FACT AND CONCLUSIONS OF LAW

In this private antitrust case, plaintiff challenges two transactions involving the general circulation daily newspapers in San Francisco. The publishers of the city's two major dailies have reached an agreement pursuant to which Hearst Corporation, publisher of the San Francisco Examiner, will acquire Chronicle Publishing Corporation's San Francisco Chronicle. The antitrust ramifications of this transaction and a companion deal involving the future of the Examiner were the subject of a trial to the court on May 1-5, 9-12 and 15. The court now makes its findings of fact and draws conclusions of law.

PARTIES

Plaintiff Clint Reilly is a real estate investor, former professional political campaign manager/consultant and unsuccessful candidate for mayor of San Francisco in the 1999 municipal elections. Reilly is a subscriber to the San Francisco Chronicle newspaper and a purchaser of single copies of the San Francisco Examiner newspaper.

Defendant The Hearst Corporation (Hearst) is a New York City-based media company engaged in newspaper, magazine and book publishing, television broadcasting and ranching, among other businesses. Hearst was founded in 1887 by William Randolph Hearst and, through trusts, is owned by his descendants. Hearst is publisher of the San Francisco Examiner newspaper.

Defendant The Chronicle Publishing Company (CPC) is a Nevada corporation headquartered in San Francisco. At all relevant times, CPC was publisher of the San Francisco Chronicle newspaper, licensee of KRON-TV, a television station in San Francisco affiliated with the NBC television network, and operator of Bay TV, a cable television station. CPC also until recently engaged in book publishing and owned newspapers in Bloomington, IL, and Worcester, MA. CPC is owned by the descendants of Michael H de Young who, along with his brother Charles, founded the San Francisco Chronicle newspaper in 1865.

VIOLATIONS ALLEGED

Plaintiff alleges that an August 6, 1999, contract by which Hearst agreed to acquire from CPC assets associated with the Chronicle newspaper constitutes an unreasonable restraint of trade in violation of section 1 of the Sherman Act, 15 U.S.C. § 1, an unlawful attempt and conspiracy to monopolize in violation of section 2 of the Sherman Act, 15 U.S.C. § 2, and calls for an acquisition of assets that will substantially lessen competition or tend to create a monopoly in trade and commerce in violation of section 7 of the Clayton Act, 15 U.S.C. § 18.

In a proposed amended complaint, plaintiff also attacks under the same provisions of the antitrust laws a March 16, 2000, contract by which Hearst agreed to transfer certain assets associated with the Examiner newspaper and make payments to ExIn.

JURISDICTION AND PROCEEDINGS

This court has jurisdiction of an action arising under the federal antitrust laws pursuant to 28 U.S.C. § 1331 and 1337 and sections 4 and 16 of the Clayton Act, 15 U.S.C. § 15, 26.

Plaintiff filed this action on January 11, 2000, challenging the August 6 contract and seeking injunctive relief under section 16 of the Clayton Act, 15 U.S.C. § 26. Because the March 16 transaction post-dated the initial complaint, plaintiff initially sought to enjoin only CPC's sale of the Chronicle to Hearst. With the development of the Hearst-ExIn transaction, all parties consented to ExIn's intervention as a defendant.

On March 30, 2000, the court granted plaintiff's motion for a temporary restraining order enjoining the transfer of assets contemplated by the August 6 agreement between Hearst and CPC. This order effectively enjoined the March 16 transaction, performance of which is contingent upon completion of the August 6 transaction. In the wake of this ruling, the parties agreed to extend the temporary restraining order and proceed immediately to trial without a preliminary injunction hearing.

At the close of evidence, plaintiff moved to amend his complaint to conform with the evidence presented at trial and the court by this order grants that motion. Plaintiff's first amended complaint contains factual allegations regarding Hearst's transaction with ExIn and seeks to enjoin that transaction.

PLAINTIFF'S STANDING

Plaintiff claims standing as a subscriber to the Chronicle and single-copy purchaser of the Examiner and as a potential purchaser of the Examiner assets that Hearst has agreed to transfer to ExIn. Ordinarily, the issue of plaintiff's standing to sue would have been litigated and decided in pretrial proceedings. Because the parties decided to proceed immediately to trial without the usual pretrial proceedings, this issue was submitted as an issue for trial.

Standing under Article III of the United States Constitution demands that the plaintiff have a sufficient interest in the outcome of the controversy to ensure that the court will be provided with a fair presentation of the issues. The Supreme Court has identified three constitutional standing requirements. A party seeking to invoke federal jurisdiction must demonstrate: (1) injury to a legally protected interest; (2) a causal relationship between the injury and the challenged conduct and (3) a likelihood that the injury will be redressed by a favorable decision. Northeastern Florida Contractors v. Jacksonville, 508 U.S. 656, 663, 113 S.Ct. 2297, 124 L.Ed.2d 586 (1993).

In an action seeking relief under the antitrust laws in issue, plaintiff faces the additional requirement of showing that the actual or threatened injury to plaintiff also constitutes an injury to competition. See, for example, Cargill, Inc. v. Monfort of Colorado, Inc., 479 U.S. 104, 109-113, 107 S.Ct. 484, 93 L.Ed.2d 427 (1986).

Standing analysis in this case is informed, in part, by the Newspaper Preservation Act (NPA), 15 U.S.C. § 1801-1804. The NPA provides an antitrust exemption for an otherwise unlawful combination or merger of two newspapers' business operations if the market for newspaper circulation and advertising does not provide sufficient revenue to support independent publication of the newspapers. In that situation, the NPA permits two newspaper firms to combine their business operations as long as they continue to produce separate newspapers.

Although the NPA does not confer affirmative rights on newspaper readers or advertisers or competing newspaper firms, the Sherman Act and Clayton Act should be read bearing in mind the legislative purposes that prompted enactment of the NPA; namely, encouragement of multiple sources of newspaper news, features and opinion. The NPA thus imports distinctly non-economic considerations into the antitrust statutes, which otherwise exclusively confine their scope to matters of economic consequence. Under this statutory framework, the elimination of a newspaper represents a cognizable injury to interests protected by the antitrust laws, and this injury supplies a ground for standing under Article III.

Plaintiff claims that the challenged transactions would eliminate one of only two providers of daily newspaper news, features and opinion in what plaintiff contends is the relevant market. This position was more starkly apparent at the time plaintiff filed his initial complaint, when Hearst's stated intention was to cease production of the Examiner and no buyer had come forward with plans to preserve a paper under that name. The March 16 transaction purports to maintain the Examiner as an independent source of newspaper news, features and opinion and thus would appear facially consistent with the goals of the NPA and, ironically enough, with plaintiff's purported objective in maintaining this litigation. Plaintiff contends, however, that the March 16 transaction is a sham, a fig leaf for conduct that violates sections 1 and 2, and will merely postpone the ultimate annihilation of an otherwise economically viable Examiner. These claims, while novel, would appear to state a cognizable injury to plaintiff as a consumer of newspaper news, features and opinion and to competition in that market; if proved, such a claim would entitle plaintiff to injunctive relief under section 16 of the Clayton Act, 15 U.S.C. § 26.

It follows from the analysis above that plaintiff's standing is limited; as a consumer of newspaper news, features and opinions, he is entitled to attempt to prove that the challenged transactions cause injury to competition for readers among economically viable newspapers. Based on the markets in which newspapers compete, there are two other possible bases for standing to challenge the transactions at bar: alleged injury to advertisers or to competing publishers. Plaintiff does not claim standing as a purchaser of advertising in the newspapers published by Hearst and CPC; the effect of the transactions at bar on the market for advertising is not, therefore, an issue that plaintiff has standing to raise. Plaintiff's failed attempt to acquire the Examiner might afford him standing as a potential publishing competitor, but, for reasons to be discussed presently, plaintiff's claim in this regard fails at the outset because of the anticompetitive nature of his offer to acquire the Examiner. Because plaintiff's standing as a potential competitor fails, he cannot challenge, among other things, provisions of the joint operating agreement restricting the sale of a JOA publication (such as the right of first refusal and 60-mile provisions).

ORIGINS OF HEARST-CPC PARTNERSHIP

In 1959, four general paid circulation newspapers were published in San Francisco by three competing firms: CPC's Chronicle was a daily morning and Sunday newspaper; Hearst published a daily morning and Sunday newspaper, the Examiner, as well a six-day afternoon newspaper, the Call-Bulletin; Scripps-Howard published a six-day afternoon newspaper, the News. In 1959, Hearst bought the News and re-titled its afternoon offering the News-Call-Bulletin.

Between 1959 and 1964, Hearst and CPC competed vigorously for circulation and advertising. Both firms suffered losses on their San Francisco newspapers. Hearst underwrote these losses from its other operations; CPC survived largely through the profits of KRON-TV. By 1964, the Chronicle enjoyed an advantage in daily circulation while the Examiner had a greater Sunday circulation.

On October 23, 1964, Hearst and CPC entered into a joint operating agreement (JOA) which became effective in 1965. That agreement formed the San Francisco Newspaper Agency (SFNA), a corporation owned in equal shares by Hearst and CPC to which the companies delegated responsibility for printing, distribution and advertising sales of both papers and transferred assets associated with those functions. SFNA immediately undertook a reorganization of the companies' newspaper offerings. First, SFNA ceased publication of the News-Call-Bulletin and shifted the morning Examiner to the afternoon. Second, SFNA began producing a combined Sunday newspaper, with the news portion published under the Examiner masthead and employing Examiner features, while a datebook and book review section and an opinion and commentary section were published under the Chronicle masthead. The non-Sunday Chronicle and Examiner remained separate editorial products with all business operations under the direction of SFNA.

Under the terms of the joint operating agreement, which persist to the present, SFNA bears all costs of publication other than those associated with creating editorial content and collects all revenues generated by advertising sales and circulation. The excess of revenue over expenses is then distributed equally between Hearst and CPC, regardless of the costs and revenue attributable to each newspaper in the joint operation.

The original term of the JOA was thirty years, with each party entitled to one ten-year renewal for a maximum potential term of fifty years. In 1995, Hearst exercised its renewal right, extending the JOA until 2005. In 1997, CPC gave notice that it would not extend the JOA beyond 2005, thereby ensuring its termination in that year at the latest.

In entering the JOA, Hearst and CPC followed the lead of other newspaper publishers in the United States who, beginning in the years of the Great Depression, negotiated similar agreements designed to achieve economies in the business operations of previously competing newspapers while maintaining separate editorial operations. One of the earliest such agreements was negotiated in Tucson, AZ, between the publishers of the Tucson Daily Citizen and the Arizona Daily Star.

In 1969, the United States Supreme Court affirmed a district court decision holding that: (1) the Tucson joint operating arrangement constituted a price fixing, profit pooling and market allocation agreement illegal per se under section 1 of the Sherman Act; (2) the agreement gave the newspapers monopoly power and was in furtherance of a conspiracy to monopolize in violation of section 2 of the Sherman Act; and (3) the acquisition of one of the parties in 1965 pursuant to the terms of the joint agreement was in violation of section 7 of the Celler-Kefauver Act amendments to the Clayton Act. Citizen Publishing Co. v. United States, 394 U.S. 131, 89 S.Ct. 927, 22 L.Ed.2d 148 (1969). This rendered the Hearst/CPC joint operating agreement and other similar agreements in probable violation of the antitrust laws.

The government challenge to the Tucson agreement prompted JOA publishers — even before the Citizen Publishing decision — to lobby Congress for protection. Enactment of the NPA in 1970 exempted the Hearst/CPC joint operating agreement from illegality.

A TROUBLED ALLIANCE

Lobbying efforts saved existing JOAs from imminent legal assault, but history suggests that the Hearst/CPC agreement was not worth saving. The joint venture embodied in the JOA has over time proved to be a problematic partnership, due to changing trends in the newspaper business and disincentives to the parties inherent in the structure of the agreement.

The performance of both papers, as measured by total circulation figures, has been stagnant or worse. In 1964, the overall combined daily and Sunday circulations of the Chronicle and the Examiner were 652,845 daily, 766,580 Sunday; by 1990, combined daily circulation had risen to 704,493, and Sunday circulation had dropped to 711,819. But by 1998, the overall combined daily and Sunday circulations had fallen to 597,042 and 605,354, respectively. Over the decade prior to trial, circulation has declined dramatically: the daily Chronicle's circulation has fallen 17.8 percent, the daily Examiner has seen a 21.3 percent decline and circulation of the Sunday product is down 17.7 percent.

Although consumer preferences and other market forces have made daily newspaper growth difficult, the JOA itself bears some of the blame for the poor performance of the venture. In particular, its equal profit split diminishes the economic incentives of the parties to devote the necessary resources to optimize readers' acceptance of the two newspapers; for each dollar spent on improving its newspaper, the JOA party reaps only fifty cents of any resulting profit. The result, in the words of defendants' expert, is that San Francisco has been "undernewspapered for some time."

The profit-sharing agreement has also contributed to profound tension within the JOA. The JOA contemplates partners of relatively equal strength, as the newspapers of Hearst and CPC were at the JOA's inception. For a number of reasons, this equilibrium has disappeared rather dramatically, as reflected by the steady growth of daily circulation of the Chronicle relative to the Examiner since inception of the JOA. In 1964, the Chronicle's daily circulation was 351,489, as opposed to the Examiner's daily circulation of 301,356. By 1998, daily circulation of the Chronicle was 482,268, while the Examiner's daily circulation had diminished to 114,774. Since 1998, the circulation of the Examiner relative to the Chronicle has fallen further. At the time of trial, the Chronicle's daily circulation exceeds that of the Examiner by better than 4:1.

An important factor accounting for the Chronicle's relative growth is that paper's position in the morning publication cycle. Due to heavier daytime road traffic, a morning newspaper distributed at night or in the early morning hours enjoys greater flexibility and ease in making home deliveries in a large urban region such as the San Francisco Bay area. Morning newspapers are also better geared to lifestyle, work and commuting patterns predominant in urban areas than evening newspapers and are less affected than evening newspapers by competition from television news. As a consequence, evening newspapers have largely disappeared from most of the nation's major urban centers.

By virtue of the JOA profit-sharing terms, however, the loss of Examiner readers to the Chronicle actually benefitted Hearst. Since defection of readers to the Chronicle did not affect Hearst's share of the JOA net excess, Hearst found that it could shift the burden of meeting the demands of a larger readership to CPC, cut its own costs and increase Hearst's profitability within the JOA. This has been Hearst's strategy for most of the duration of the JOA. Conversely, as the Chronicle's relative circulation grew, the Examiner became a drain on CPC that hindered its efforts to compete with other regional newspapers.

THE CHRONICLE SALE

In 1993, CPC hired as chief executive officer John B Sias, the first non-de Young family member to run the company. Sias had extensive prior experience in the media business.

In the years 1995 to 1999, representatives of Hearst and CPC had intermittent discussions and exchanges of correspondence about the impending termination of the JOA. Sias and his counterpart at Hearst, Frank A Bennack Jr, exchanged much of that correspondence. Hearst and CPC representatives discussed several possibilities, including the option of closing the Examiner and giving Hearst a percentage participation in the Chronicle's profits.

By October 1997, Sias had informed Bennack that CPC would not exercise its right to extend the JOA and that the JOA would, therefore, expire in 2005. The JOA provides that at the end of the term of the agreement, Hearst and CPC will cooperate in dissolving SFNA to enable both companies to engage in publishing their respective newspapers separately.

But Sias and Bennack regarded the prospect of separate publication and head-to-head competition after termination of the JOA as hopelessly unrealistic. The economics of the newspaper industry have made it virtually impossible for more than one general circulation daily newspaper to survive in competition in the same city. When one newspaper rises to a certain dominance in a geographic area, advertisers are able to reach their intended audiences with placements in one newspaper rather than two or more; to cut advertising costs, advertisers have tended to eliminate advertising in the smaller general circulation papers. Since lower circulation rates lead to fewer advertisements, and fewer advertisements make a newspaper less attractive to readers who value the information advertisements provide, declines ...


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