AOL takes the high-speed challenge

update | news analysis A shake-up in management at the AOL Time Warner division puts pressure on the company to make a speedy transition to broadband.

Jim Hu Staff Writer, CNET News.com
Jim Hu
covers home broadband services and the Net's portal giants.
Jim Hu
4 min read
update | news analysis Barry Schuler's departure as CEO of America Online has thrown a spotlight on the broadband plans of beleaguered parent AOL Time Warner.

The company considers a faster, fatter pipe to the home as the key to selling a host of new products and services such as digital music subscriptions and movie downloads. AOL Time Warner co-Chief Operating Officer Bob Pittman, who will take over for Schuler, has said he believes the company could bring in as much as $159 a month per subscriber for a range of services. That figure includes a $54.95 monthly charge for digital subscriber line connection, which is among the most expensive in the industry.

Now comes the scary part: Pittman may have to make those numbers if the online division is to regain its former glory and help its parent recover a stunning $250 billion in market value that has disappeared since the AOL-Time Warner merger was first announced.

To get a handle on the size of the goal, consider that the company averages between just $17 and $18 in subscription fees per member per month. That means each high-speed customer could be worth as many as nine dial-up subscribers--if Pittman can reach his projections. But that's a big "if" in light of AOL's problems, many of which were detailed Tuesday in an investor note from Lehman Brothers equity analyst Holly Becker.

"We believe the AOL division is facing several fundamental challenges: a slowing narrowband business, a challenging broadband transition, collapse of the online ad market and a murky path to profitability internationally," she wrote.

Investors on Wednesday showed their concerns about such difficulties, pushing down shares of AOL Time Warner by more than 5 percent. The stock closed down $1.15 at $20.70 on the New York Stock Exchange, slipping below the company's 52-week low.

In announcing Schuler's reassignment to a new division, AOL Time Warner downplayed subscriptions and focused on the significance of the executive switch for reinvigorating AOL's slipping advertising sales.

Earlier this year, AOL Time Warner reported that the AOL division's advertising and commerce revenue declined 7 percent, from $686 million in the fourth quarter of 2000, to $637 million in the fourth quarter of 2001.

But in a footnote to the lengthy report, the company noted that during the quarter other corporate units poured $138 million worth of advertising into the AOL unit, accounting for more than a fifth of that unit's revenue.

Without this intercompany advertising, such as marketing campaigns on behalf of New Line Cinema's "The Lord of the Rings" movie, the AOL division's revenue declined 27 percent from the same period in 2000.

AOL's short-term outlook may rise and fall on its ability to score ad deals in a tough market.

"The challenge facing us at AOL is to improve the performance of its advertising business in the current advertising slowdown by building on AOL's unique competitive position and capabilities," said AOL Time Warner co-COO Richard Parsons, who will take charge of the company when CEO Gerald Levin steps down in May.

For AOL's long-term future, however, high-speed cable access likely will be key.

Internet consumers have not been signing up for broadband in droves, partially because of added costs, but mostly because of the inconvenience of getting one's local cable or phone company to install a connection.

But even if local services were speedy and efficient, AOL Time Warner has plenty of competitors who hesitate to open their doors to the company's expansionist plans. AOL Time Warner owns the nation's second-largest cable company behind the soon-to-be combination of AT&T Broadband and Comcast. To make AOL Broadband as ubiquitous as its flagship dial-up service, AOL Time Warner needs to strike carriage deals with the competition.

Cable companies and other Internet service providers, including Microsoft's MSN and EarthLink, lobbied aggressively against the AOL-Time Warner merger. It's not likely that many of these entities will open their doors to the company now.

AOL Time Warner failed to acquire AT&T Broadband, which would have demolished a significant barrier of entry. Furthermore, about 7 million of its 12.8 million subscribers are controlled by a partnership with the Newhouse family. In a recent government filing, AOL Time Warner disclosed that the Newhouse family might choose to exit the venture and take a third of their 7 million subscribers with them.

Such a move would throw a wrench into the grand vision of AOL Time Warner. Time is not on the company's side, and neither is Wall Street.

"The rush is that you can see the impatience of investors in the stock price," said Peter Mirsky, an equity analyst at SG Cowen Securities. "Investors want anything that resembles good news."