News Corp.'s trouble in aisle three

A little-known unit in Rupert Murdoch's empire is facing some nasty allegations, reports Fortune's Jennifer Reingold.

By Jennifer Reingold, Fortune senior writer

NEW YORK (Fortune) -- For months now, Rupert Murdoch's quest for Dow Jones has riveted the business world. But another juicy melodrama is unfolding at News Corp., one that may shed some light on how the $25 billion company sometimes does business.

It involves a little-known subsidiary called News America marketing, which comprises the bulk of News Corp.'s (Charts, Fortune 500) magazines and inserts division. It produces newspaper coupon inserts, in-store supermarket ads, and the like. That may seem boring next to, say, movies or MySpace, yet, its profitability is anything but: Its 28% operating margins are the highest at News Corp., while operating profit is triple that of Dow Jones (Charts). Even more scintillating is a series of lawsuits alleging that News America used anticompetitive behavior to try to drive its rivals out of the market, and the recent emergence of a former employee who claims the company tried to pay him off to keep quiet. His lawyer: Philip Hilder, best known for representing Enron whistleblower Sherron Watkins. The saga has become the talk of the industry.

News America sells in-aisle marketing tools like shelf coupons and floor ads.

News America's $1.1 billion in sales make it a small player by Murdoch standards, but it has a market dominance that's unrivaled in most industries: It controls 50% to 60% of the insert market and as much as 90% of the in-store business, estimates analyst Robert Evans of Craig-Hallum Capital Group. "They are the hands-down 800-pound gorilla," says Peter Hoyt, executive director of the In-Store Marketing Institute, a trade association.

It's a gorilla that likes to throw its weight around, according to four separate lawsuits filed by competitors that accuse it of using illegal tactics against them.

In the largest of the suits, Valassis Communications (Charts), the company's biggest rival in inserts, is suing for $1.5 billion. It claims that News America gained share by forcing its packaged-goods customers to sign long-term insert contracts or risk huge price increases on their in-store advertising displays. Another competitor, Floorgraphics, alleges that News America CEO and chairman Paul Carlucci, who sits on News Corp.'s executive committee, vowed in 1999 to "destroy" the company.

It says News America then began a campaign to coerce retailers to stop doing business with Floorgraphics.

Theme Promotions, a merchandising firm, actually won a $6.8 million jury verdict against the company in 2005, but News America is appealing. Indeed, most of the suits have been bogged down in legal wrangling for years, in part, say plaintiffs' lawyers, because News America has the money to drag things out. Carlucci and News America refused to comment for this story.

But now there may be a smoking gun in the form of an ex-employee who is alleging unsavory conduct on the part of his erstwhile employer. Robert Emmel, a former account manager who worked in in-store marketing, was fired late last year; a few months later, after Floorgraphics subpoenaed him as part of its lawsuit, Emmel revealed he had kept a copy of his computer hard drive because, he said in a deposition, he "had some concerns about some of the business practices that News America had engaged in." Just what is on those disks is still unknown, but News America isn't taking any chances: In April the company sued Emmel personally, alleging, among other things, breach of contract and misappropriation of trade secrets. Emmel countersued under Georgia's RICO statute.

The charges in Emmel's countersuit read like headlines ripped from Murdoch's New York Post. Among them: "the extortionate use of economic fear," "theft and scheme to commit wire fraud," and the allegation that News America broke into Floorgraphics' computer system 11 times during one three-month span.

Emmel also alleges that News America's president, Christopher Mixson, offered him $30,000 in "severance" after Emmel told a colleague he was weighing speaking with the state of Minnesota's attorney general's office, which is a co-plaintiff in one of the lawsuits. Reached for comment, Emmel would say only, "I'm a pro-justice individual." Mixson declined to comment.

As for Carlucci, a quick look at his background suggests a man with a soft spot for tough guys and how they operate. A board member of the Guardian Angels, he has invited founder Curtis Sliwa to speak at a company meeting for several years running. And according to the Valassis lawsuit, Carlucci once tried to motivate his sales force by playing a scene from the film The Untouchables in which Al Capone crushes a rival's skull with a baseball bat. In Murdoch's eyes, though, Carlucci is a star: In 2005 he gave him the added job of publisher of the Post, replacing Murdoch's son Lachlan.

Next up in the court cases: an imminent decision on what from Emmel's hard drive can be used as evidence.

In the meantime, few outsiders seem aware of the goings-on at News America. "Wall Street focuses on Rupert, the studio, the network, and MySpace," says Michael Nathanson, an analyst at Sanford C. Bernstein.

"Other businesses don't get the same interest."

Research associate Patricia A. Neering Top of page