(FORTUNE Magazine) – Who made the most money off the Internet bubble? No, not Steve Case or Jim Clark or even Mark Cuban. Not even close--it was Thomas Middelhoff, CEO of Bertelsmann, the 167-year-old German media company. As Middelhoff is only too happy to tally for anyone who asks, Bertelsmann spent about $2 billion on Internet investments and startup losses. Then, before stock prices collapsed in 2000, the company closed deals to sell its 50% stake in AOL Europe to AOL, as well as the Internet backbone it had built in Germany to Spanish telco Telefonica. Total price: $9 billion. Do the math. That's $7 billion in hard cash--more money than AOL has made in its existence as a corporation, more than the current market capitalization of Amazon.com.

Middelhoff hasn't gotten much credit for it. The deal has been depicted in the media as a lucky break, forced on Middelhoff by AOL's decision to buy Bertelsmann rival Time Warner. That's the way it has gone for much of Middelhoff's 3 1/2-year tenure as chief executive. He came into office a hypercharged young apostle of the Digital Age, bursting with bold promises and big ideas. But instead of suddenly ascending to digitized nirvana, privately held Bertelsmann--the world's biggest book publisher and a major force in magazines, music, and European TV--seemed stuck in mundane reality, while Internet mania and megamergers reshaped the media landscape. Whatever Middelhoff did, his achievements never seemed as important as Yahoo's market cap hitting $100 billion or AOL's buying Time Warner.

Over the past year, though, one thing has become clear: Everybody else is stuck in mundane reality too. More stuck, in fact. While fellow media giants Disney, Viacom, News Corp., Vivendi Universal, and AOL Time Warner stagger under multibillion-dollar debt loads, Bertelsmann owes nothing. While those five lost money in 2001, Bertelsmann turned a profit. While the others are beset by leadership turmoil--or at least serious questions about who will be running the show a few years down the road--Bertelsmann has a CEO who will almost certainly be in charge until 2013, when he reaches the firm's mandatory retirement age of 60. Middelhoff won't get full credit for any of that either. Being debt-free, profitable, and led by a CEO who doesn't have to worry about job security is the Bertelsmann way.

So where does that leave Middelhoff? "I feel very comfortable," he says. "The stock market is under tremendous pressure. All our big competitors are under tremendous debt burdens. These are the best conditions for Bertelsmann."

Middelhoff doesn't act comfortable, though. Even at the ripe old age of 49, he is still seething with energy and ambition and vanity--and sick of the querulous press he's been getting, particularly in Germany. ("The problem in Europe is the people are always jealous," he moans.) In an interview at the New York City office where he spends a week each month, he launches into an hour-long monologue, complete with PowerPoint printouts, explaining how he has nearly doubled Bertelsmann's size, transformed it into a TV colossus, and, even after the AOL Europe selloff, built a probable Internet powerhouse as well. "Bertelsmann is now in another league," Middelhoff says. "In the last four years it has changed entirely."

That is the puzzle of Thomas Middelhoff. Has he really transformed Bertelsmann, or is he a happy exemplar of corporate traditions? Is he lucky or is he smart? Talking to the man doesn't answer the questions--his conversation careens from considered to way out there, from visionary to petty. It's only when you look more closely at the company he works for that an answer begins to emerge: He's all those things, and that's why he's running Bertelsmann.

A key to understanding that is Middelhoff's relationship with Reinhard Mohn, the 80-year-old creator of the modern Bertelsmann and de facto owner of the company. Middelhoff calls Mohn--who still reports to work most days at the Bertelsmann Foundation building next door to company headquarters in the northwestern German city of Gutersloh--his "thought partner." He also finally got permission last year to call him "Reinhard" instead of "Herr Mohn." But Mohn is no traditionalist. His motto is "continuity through change." He built what was arguably the first modern media company. And while he remains Bertelsmann's link to the past, he agreed last year, at Middelhoff's urging, to take the company somewhere it has never been before: the stock market.

When 25-year-old Reinhard Mohn returned home in 1946 after three years in a Kansas prisoner-of-war camp and took over the ruins of the family publishing house (his mother was a Bertelsmann), he was pretty much starting from scratch. If Mohn hadn't given away most of his shares in 1993 to the foundation he set up, he would now be one of the richest people on earth. (When media company market caps were in the stratosphere two years ago, Mohn might have topped Bill Gates.)

That alone should mark him as one of the great entrepreneurs of the post-war era. But Mohn's most lasting contribution may be that he broke the mold of the 20th-century media lord. Before Mohn, the men who ran great media businesses were inseparable from what they created. William Paley, Walt Disney, Henry Luce, Louis B. Mayer, and--to throw in a fellow German--Axel Springer weren't media moguls; they were kings of broadcasting or animation or magazines or movies or newspapers. Mohn wasn't like that. He ended up running Bertelsmann in part because his older brother died during the war, and he never evinced any great passion for the books it published--or, later, for the magazines and records and TV shows it produced. Instead, what got Mohn juiced, even in the early days, was the art and science of running an organization and motivating the people who worked in it.

Bertelsmann's first big post-war success was a book club, an idea that had been around for decades but had never been marketed with quite the desperate fervor that Bertelsmann and its legions of independent sales agents brought to bear. By the mid-1950s the Bertelsmann Readers' Circle (it's now Der Club in Germany, while in the U.S. the company owns 50% of Book-of-the-Month Club and Literary Guild) was a huge hit. Before long Bertelsmann was branching into music and launching a book club in Spain. Those business ideas were largely the work of others; Mohn--an avid student of American management theory and practice--spent his time devising a structure for his growing company.

Mohn decentralized Bertelsmann, splitting it into distinct profit centers and giving the chiefs of those profit centers loads of autonomy and heavily performance-based compensation. He also figured out ever better ways to measure that performance. And in 1960, long before the mission statement was a standard corporate accessory, Mohn put the first set of Bertelsmann principles on paper, starting a project that would occupy him for decades.

In their most distilled form Mohn's principles come down to this: Making a profit is essential, but only as a means to the end of giving lots of people interesting jobs to do. Change is essential, too, but it's only bearable for those affected if it is accompanied by some sort of continuity. These principles had real-world implications: Mohn generally reinvested his profits in the company rather than pocketing them. And he provided continuity by keeping control of Bertelsmann firmly in his hands, rather than ceding it to banks or stock market investors.

The company Mohn built on those principles didn't always run its operations better or make better deals than its media rivals. But it was able to draw on a seemingly inexhaustible supply of ambitious, entrepreneurial young executives (known as Bertelsmanner, or "Bertelsmen") attracted by the autonomy Mohn allowed them. It also boasted a boss who was unsentimental in his strategic decisions (that is, Mohn started businesses or bought companies because he thought Bertelsmann could make a go of them, not because they provided outlets for his interests or political views). And when Bertelsmann decided it liked a business, its staying power and willingness to keep investing were unmatchable.

The company grew, and grew. It bought into the magazine business in 1969, acquiring a 25% stake of Hamburg-based publisher Gruner & Jahr, which it upped to a majority within a few years. It made its first big U.S. acquisitions (Arista Records and Bantam Books) in the late 1970s. It invested in Germany's first private TV broadcaster, RTL, in 1984. And in 1986, upon buying RCA Records and Doubleday books, Bertelsmann passed CBS to become the world's biggest media company.

Then came the marriage of Time Inc. (FORTUNE's publisher) and Warner Brothers in 1989. The age of the media megamerger had begun: Disney-ABC, Time Warner-Turner, CBS-Infinity, Viacom-CBS, Vivendi-Universal, AOL-Time Warner. In one sense they were companies on the Bertelsmann model--decentralized, with chief executives more interested in making money than in making books or movies or music. But the mergers that created them and the power-sharing arrangements that followed were anathema to Bertelsmann, a company with no publicly traded shares and an owner not interested in sharing control with outsiders. Bertelsmann stayed on the sidelines and slid down the ranks of the world's media giants. Its $18 billion in revenues last year put it fifth, behind Viacom.

When Middelhoff took over in November 1998, Mohn was no longer the owner of most of the company, or the sole voter of its shares. In the interest of continuity, Mohn had handed voting rights to the shares owned by his family and the Bertelsmann Foundation to an eight-member committee of company executives and employees, Mohn family members, the head of the foundation, and one outsider. As long as Mohn is alive and sentient, though, he'll have the last word.

Middelhoff seems to have chafed initially at Bertelsmann's unwillingness to play the merger game. He refuses to discuss it now, but Mark Wossner--Middelhoff's predecessor and then supervisory board chairman--says Middelhoff came to him in 1999 with a proposal to merge privately held Bertelsmann with AOL. Because of AOL's then huge stock market capitalization, Bertelsmann would have been the junior partner in the deal. Wossner said the idea wasn't even worth bringing up with Mohn.

Middelhoff dropped the matter and operated as best he could in the margins of media-merger mania. He spent a lot of money on the printed word, which most other big media companies found too dull. He continued to invest in Internet angles that rivals found too daring. And he upgraded Bertelsmann's long-standing investment in TV with a huge, company-changing bet.

In early 1998, while he was living in New York City as CEO-in-waiting, polishing his English and getting to know his fellow media moguls, Middelhoff arranged to buy publisher Random House from the Newhouse family for $1.1 billion. Bertelsmann's book business, now No. 1 worldwide, is profitable and has been getting more so every year. Middelhoff is less happy with having spent $340 million to buy Fast Company magazine in 2000. "We overpaid there," Middelhoff volunteers, "but we will make something out of it." In music Middelhoff tried to improve Bertelsmann's No. 5 position by buying No. 3 EMI last year, but the deal was thwarted by European antitrust regulators. "I was so close," he says.

Then there's the Internet, where Middelhoff made his name by persuading his superiors in 1994 to buy 5% of AOL and launch a joint venture with the company in Europe. By the late 1990s the deal was seen as a masterstroke. But AOL Europe never took off as hoped, and Middelhoff says that even before the AOL Time Warner merger announcement he was trying to unload Bertelsmann's share of AOL Europe. He has since focused Bertelsmann's Internet efforts on e-commerce--the company now claims to be the No. 2 global online bookseller and the No. 1 online music retailer, with its assemblage of CDNow, Barnes & Noble.com (of which it owns 40%), bol.com, and the various book and music club sites. Then came the headline-grabbing decision to lend Napster $50 million in late 2000 in hopes that the company could come up with a legal version of its music-swapping service. That was supposed to happen last summer, and the world is still waiting (Napster's new software is in beta testing). But Middelhoff is at his most compelling when he argues that, whether by Napster or some other means, the sharing of "digitized media and entertainment products" will transform the media business--and that other media companies fight the phenomenon at their peril. "The Internet is a new customer challenge with a new customer attitude," he says. "But the music industry always thinks, We own the content, and we should decide how the consumer should use the content."

In any case, Middelhoff says Bertelsmann is prepared to stick with its Internet strategy for the long haul--just as it has done with TV. The company first invested in television in 1984, with a minority stake in Germany's first private broadcaster. Now, after more than a decade of false starts, lawsuits, controversy, horse trading, and huge expenditures, TV is Bertelsmann's biggest moneymaker. RTL Group, Bertelsmann's TV operation, doesn't get much attention in the U.S., for the obvious reason that it doesn't do much in the U.S., where Family Feud and the no-longer-in-production Baywatch are its best-known shows. But RTL is Europe's No. 1 broadcaster, with TV and radio stations in almost every major market, and is a leading global producer of game shows and soap operas.

A year ago Bertelsmann owned only 37% of RTL, which had been cobbled together out of properties owned by Bertelsmann, Belgian holding company Groupe Bruxelles Lambert, and British media company Pearson. Middelhoff decided that getting full control was so crucial that he proposed--and Mohn agreed to--what appeared to be a decisive break with the company's past. They undertook a share swap with GBL, offering it the right to take its 25% stake in Bertelsmann public in 2005.

In a flurry of interviews with the German press last summer (since then he has clammed up), Mohn argued that although going public would certainly shake things up a bit at Bertelsmann, it didn't amount to a break in the ownership continuity he prizes so much. "No one outside our little [share-voting committee] can decide anything around here," he told Die Zeit. "Not even Groupe Bruxelles Lambert."

That may turn out to be right. It may prove to be naive. Or Bertelsmann may decide to buy out GBL before it takes the shares public. In the meantime, Middelhoff has seized on the prospect of an IPO as a powerful management tool. For all its successes, Bertelsmann is a huge, sometimes unwieldy, sometimes complacent assemblage of independent fiefdoms (which happens to be pretty much the definition of the modern media conglomerate). Middelhoff had never even run one of Bertelsmann's major media businesses when he became CEO--he joined the company as a management trainee in 1986, ran a couple of printing plants, then was called up to headquarters by Wossner to head corporate strategy. So getting a bunch of experienced, independent managers to follow his lead hasn't been easy. At first it was the Internet, and Bertelsmann's relationship with AOL, that allowed Middelhoff to impart urgency to his exhortations. Now he's able to scare everybody in the company, and get them to pay attention to his priorities, with the prospect of going public in 2005.

Middelhoff says those priorities are improving operating performance, increasing cooperation between the different parts of the company, and filling in gaps in Bertelsmann's global portfolio. The latter part is simply a matter of deciding where to spend money--most likely on magazines in the U.S., where Gruner & Jahr is still only the fifth-biggest publisher; TV in Europe, where outside Germany most RTL stations are also-rans; and just about everything in China, where Bertelsmann has started a book-club push.

When it comes to performance, Random House is the only major Bertelsmann division that can claim to be best in class in terms of operating profit as a share of revenue. Bertelsmann's book- and music-club unit is alone in its class worldwide but is troubled (with losses of $48 million in fiscal 2001) and in the middle of a grand Middelhoff experiment to combine e-commerce sites and book clubs under a single management. The company's music division has long struggled, although a combination of cost cutting and hit records (five of the top-ten-selling albums in North America in the first quarter of this year were Bertelsmann's) will put it back in the black for 2002. In TV and magazines, Bertelsmann is clearly at the top of the heap in Europe, but margins aren't near the level of U.S. rivals, in part because it takes more magazines and TV stations to cover the fragmented European market.

As for cooperation, it's a matter of degree. "I am saying, 'Yes, you are independent, yes, you are entrepreneurs, but you have to cooperate,'" says Middelhoff. Most of it is pretty straightforward--Random House and Bertelsmann's printing division are coordinating their activities better, RTL's production arm is giving RTL stations the first shot at a new hit show. But Middelhoff is after something more. He thinks Mohn's model of a media company run like any other company--General Motors and General Electric were his most oft-cited role models--is no longer enough. When asked what the point is of a big, diversified media enterprise like Bertelsmann, he says, "I don't want to be diversified.... This is a media and entertainment company--and we should have a passion for our job."

Middelhoff then starts talking about his bookworm youth, his childhood dreams of being an author--"Thank God, for the readers' sake, it didn't happen," he adds. He says he had a video made for a Bertelsmann management meeting, and that to really understand what he's getting at, one has to see it. The video, titled World of Passion, shows fictional Bertelsmann employees--diverse in their nationalities and occupations but homogeneous in their movie-star good looks--gainfully pursuing their childhood dreams. It is also as cringe-inducingly phony as one would expect from a corporate video about creative fervor. Give Middelhoff his due as a manager and dealmaker, but maybe keeping business and passion separate is one of those Bertelsmann traditions that shouldn't be messed with.

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