AOL Time Warner’s new formula

Apr 23, 2001  •  Post A Comment

AOL Time Warner’s self-proclaimed media business model of the future is immediately being put to the test and so far is doing so well that it’s forcing other faltering and uncertain media concerns to take notice.
There is little doubt investors in more traditional media, entertainment, telecommunications and even the Internet have their future hopes pegged on AOL Time Warner. There was great anticipation of the company’s first quarterly earnings as a newly merged entity, as witnessed by a flurry of analyst reports before and after AOL Time Warner announced it had beat Wall Street forecasts for the period.
The day that AOL Time Warner announced its upbeat earnings, on the tailwind of a surprise half-point interest-rate reduction by the Federal Reserve Board, the company’s stock shot up more than 10 percent to close at $48 a share.
Clearly, Wall Street wants AOL Time Warner’s hybrid media model to work. And early indications are that AOL Time Warner is developing a business model diverse and deep enough to weather nearly any economic storm.
The potential strength of that model made it possible for Mike Kelly, AOL Time Warner’s chief financial officer, to declare to investors last week that, during the second half of the year, the company expects improved performance, which it will need to make its targeted $11 billion of earnings before interest, taxes, depreciation and amortization on $40 billion in revenues. But that improvement is not dependent on an upswing in the economy or in conventional advertiser spending so much as it is on the company leveraging its exploding subscriber base and solidifying more cross-media platform marketing deals with advertisers looking for the best bang for their buck.
That is a difference that has significance to all media players.
“This shows their resilience in the face of a difficult advertising market,” Fred Moran, analyst at Jeffries & Co., said in response to the company’s first-quarter earnings results.
CIBC World Markets analyst John Corcoran said, “Against the backdrop of a softening economy and advertising market, it was an impressive quarter that speaks to this company’s unique strengths.”
Cracks in the armor
Chris Dixon, analyst at UBS Warburg, cautioned that AOL Time Warner’s ability to weather the soft ad market may not be at all indicative of what more traditional media players, such as Viacom and The Walt Disney Co., which have yet to report their latest quarterly earnings, can do. “It’s still early in the game,” he said.
Yet AOL Time Warner CEO Gerald Levin assured investors the company’s better-than-expected first-quarter results are not an anomaly but proof that the merged entity is on track to “generate sustained and consistent growth, and mitigate volatility.”
What AOL Time Warner is saying is that it doesn’t necessarily rely on a full economic recovery to be able to grow or move forward with its own plans; it can create the business and revenues another way by leveraging its overall base of 133 million subscribers worldwide. While the jury still is out on how effectively that can continue to occur, AOL Time Warner has hit on a way to buck the deadly trend of companies pre-announcing declining earnings and forecasting worse-case scenarios.
There are gaping holes in AOL Time Warner’s own outlook. There were a number of critical revenue matters company executives did not fully address. They enthusiastically referred to their broadband plans but declined to elaborate on details or a timetable. They reiterated their commitment to rolling out multiple ISPs on Time Warner Cable systems during the second half of the year and to AOL’s carriage by other cable operators but they skirted the details.
AOL and Time Warner Cable will create an open-access test lab later this year that will actively demonstrate to other cable operators the benefits of multiple ISPs. Naming the two alternative ISPs that will join AOL in a multiple offering of high-speed Web access to Time Warner broadband users is weeks away. AOL Time Warner already has an agreement with EarthLink.
Company executives declined comment on talks with AT&T to restructure or dissolve their Time Warner Entertainment partnership, perhaps with tradeoffs such as Time Warner acquiring AT&T’s 30 percent Cablevision stake or AT&T clearing AOL and Time Warner content on its cable systems.
AOL Time Warner also offered few details about its planned embrace of broadband, on which the future growth of its fast-growing online and cable divisions is highly dependent.
Company executives said only that AOL Time Warner’s next great growth spurt will be ignited by the mass-market delivery of broadband in late 2002. In the meantime, AOL Time Warner is working on transforming applications for all of its platforms that will drive what the company believes will be the ultimate barometer of success: revenue per household.
Building the future
Separate and above such mechanics and economics, Mr. Levin conveyed an important notion: that AOL Time Warner is in the beginning stages of building “the largest mass-market medium we’ve ever seen.” In the process, it is redefining the importance and use of ties to consumers, advertisers, content suppliers and service providers.
That evolving new media business model will become even more evident in future earnings reports.
“The magnitude of advertising growth in the quarter proves that size matters,” Richard Bilotti of Morgan Stanley Dean Witter said, pointing to AOL Time Warner’s 10 percent increase in advertising and commerce revenues last quarter. “We believe that the company is already well enough integrated to use this to its advantage.”
Two areas in particular reflected merger synergies, according to Mr. Bilotti: The elimination of intersegment costs grew faster-at a rate of 32 percent-than the company’s overall revenues grew-at 9 percent, “indicating that the company has been aggressively cross-marketing”; and total end-user demand for the company’s products “is surging,” as evidenced by AOL Time Warner’s total 18 million-plus subscriber additions from a year earlier.
AOL Time Warner officials do not attribute their company’s ability to survive and thrive in challenging economic times to conventional advertising. Instead, AOL Time Warner is dependent upon subscriber growth and advertiser partnerships and its ability to leverage those relationships while selling its content to its own and other outlets.
Indeed, the argument can be made that only an entity as big and as diverse as AOL Time Warner could have investment and vendor interests in six of the eight advertisers with whom it has sealed broad cross-marketing deals.
But company executives insist the transformation of advertising is bigger than just one company. The winner is the media company with the most moving parts, from interactive to traditional delivery platforms and content.
A new industry model
It’s that complex and marvelous juxtaposition that speaks to the strength of new and old media at a time when the fundamentals of both are under great scrutiny.
“AOL Time Warner is creating a new mass marketer for an interactive age, and in many ways it is analogous to the broadcast networks in their heyday,” said Raymond Katz, Bear Stearns Entertainment analyst. Like CBS, AOL Time Warner’s mass-market success will be in “monetizing its audience,” he said.
AOL is the “Tiffany online service provider,” just as CBS was the Tiffany broadcast network, “with the ability to go point to multipoint and also, more uniquely, to go point to point. That’s the sizzle in the long-term story. This is the engine that will drive the machine,” Mr. Katz said.
If it is successful, Mr. Katz expects AOL Time Warner can beat current 2001 growth expectations, achieving a 21 percent increase in its overall advertising and commerce revenues, a 15 percent increase in its subscription revenues and a 6 percent increase in its content revenues.
AOL Time Warner asserts it creates applications that help generate new marketing relationships with companies that-when combined wit
h more traditional media budgets-can transform the relationships advertisers and marketers have with consumers.
The AOL Time Warner business model cannot be easily replicated elsewhere by virtue of its unique components. That’s all the more reason why it is important to look at the pieces and dynamics that are translatable to other media
First and foremost is a relationship with consumers-something that broadcasters innately have established, especially in their own communities, and that cable operators have with their subscribers. Cable already is in a position to leverage those relationships with new digital services. Broadcasters must work harder to find new ways to make their consumer ties pay off-which may actually involve modifying the free over-the-air broadcast model.
Second is to look at advertising and advertisers in a completely different light.
It isn’t just about grabbing viewers’ attention anymore. It’s getting their name, rank and serial number. It’s understanding what makes them tick. It’s matching buyers and sellers. It’s making the sale. And then it’s charging a premium for the integrated connections. That’s advertising, marketing and sales rolled into one.
AOL Time Warner Co-Chief Operating Officer Bob Pittman reiterated that the entire company is able to thrive in these challenging times by viewing advertising differently, not as a unit sale on television or online or in print but as “renting a customer relationship to unaffiliated third parties. … It’s all about our consumer relationships.”
The only way other media companies will be able to achieve a similar end is to weave the Internet or some form of interactivity into the media mix that allows buyer and seller to directly and immediately communicate. In the meantime, the first true hybrid media company of its kind is making a mark in other significant ways.
Struggling Internet service pro- vider Yahoo! was obviously taking its cues from AOL Time Warner last week in appointing Terry Semel as its new chairman and CEO. While the appointment on first glance appeared to come out of left field, it makes perfect sense if the new goal in the media world is to embrace the best of what new and old media have to offer.
A `builder’ for Yahoo!
Mr. Semel, a former Warner Bros. co-CEO, said it best himself: “I’m fundamentally a builder.” He knows what it is to build a struggling movie studio worth about $1 billion into a fledging movie and TV production house and library worth $11 billion while its parent company morphed four times into a global media conglomerate.
Mr. Semel says his short-term focus is on boosting Yahoo!’s ad sales and developing more fee-based services, but he declined to address the prospect of a grand alliance with a more traditional media player.
After running interference in Hollywood for two decades to create power and profits, surely he can guide an $11 billion Internet platform, rooted in consumer and advertiser relationships, to more sure footing in a world where content and service providers are clamoring for such interactive connections. A single swift merger or acquisition with Viacom would scoop Yahoo! into a media hybrid a la AOL Time Warner that would effectively capitalize on its rich brand resources. Mr. Semel’s solid connections to the East and West coasts’ creative communities ensure it will happen.
As the economy improves and as companies decide they need to make radical change, other such moves will take place, melding old and new media entities and personalities to create new hybrid concerns. They won’t all be like AOL Time Warner, but they will embrace the best of AOL Time Warner’s vision of what will work for media companies in the future.