THE NEW AOL LOOKS LIKE THE OLD YAHOO
By Stephanie N. Mehta

(FORTUNE Magazine) – THESE DAYS BLAND IS BEAUTIFUL IN Dulles, Va., the home of America Online. You'll hear no talk of multimedia convergence or revolutionary new products from AOL's unflashy CEO, Jonathan Miller. Instead he's more likely to talk about such plain-vanilla tactics as cost-cutting (the company in mid-December laid off 750 employees) and a recent reorganization of the business. And even Miller's grand strategy for boosting AOL ad revenue in 2005 is unlikely to blow anyone away: He's building a Yahoo wannabe.

Next year AOL (like FORTUNE, a unit of Time Warner) will relaunch AOL.com as a free portal that will compete with the likes of Yahoo and Microsoft's MSN. To attract users to the site, AOL will harvest bushels of material from its "walled garden" and offer articles, games, and other online fare that's now available only to its subscribers. The site will feature a search engine and chatting capability through AOL Instant Messenger (AIM), and it will even offer free web-based e-mail addresses, probably using "aim.com"--not the coveted aol.com--as the domain name.

It sounds utterly familiar--but ironically, it's exactly what advertisers (and investors) are clamoring for. "We're getting priced out of premium spots on MSN and Yahoo," says Andy Sims, director of SF Interactive, which buys online advertising for a number of major clients. Portals such as MSN and Yahoo can sell ads on their home pages to a single advertiser for $300,000 a day, up from about $120,000 a year ago, Sims says. And many of their best slots are sold out months in advance.

Guys like Sims are hungry for alternatives, so hungry that they are willing to overlook past bad experiences with AOL, which once dominated the online advertising world and treated advertisers poorly. AOL says it has made a number of advertiser-friendly changes, including a major technology upgrade that makes it easier for companies to "serve" their ads to AOL users.

What took AOL so long to see the light? When Miller arrived at AOL two years ago, he set out to spruce up the Internet service business, which still pulls in a staggering $7.5 billion in annual subscription revenue despite heavy losses to broadband services or cheaper rivals. AOL insiders worried that a free site, featuring content once exclusively for subscribers, would kill the golden goose and accelerate the loss of paid users.

Through cost-cutting AOL minimized the financial impact of fleeing subscribers, but that hand is played. Its push into broadband through a special "bring your own access" service has stemmed some losses--almost five million customers use the service--but it hasn't been enough.

So now AOL is trolling for ad dollars, and hoping its subscribers won't bolt (the company says its research shows a free site won't alienate paid users). The new strategy may not offset the inevitable losses in dial-up revenue, but it will have the benefit of boasting higher margins.

Analysts are always cautious as far as AOL is concerned, but many think the portal strategy should be a modest victory for the company--after all, AOL already has 23 million subscribers and almost 30 million Instant Messenger junkies who would be natural users of such a site. Time Warner CEO Dick Parsons, who avoids making financial projections without some hard evidence to back them up, recently told investors that AOL will post ad revenue of close to $1 billion in 2004 (vs. about $2 billion for Yahoo) and will boost ad sales in line with the rest of the market next year. (Overall online advertising is expected to grow 25%.)

Indeed, as AOL becomes more MSN- and Yahoo-like, the company should command comparable valuations--at least on the advertising-driven parts of its business. Today Wall Street values AOL like a utility: Most analysts agree AOL is worth roughly $8 billion. (In contrast, Yahoo boasts a market capitalization of $53 billion.) But Michael Gallant, media analyst with CIBC World Markets, thinks there's no reason investors shouldn't assign an Internet-like multiple to AOL's earnings from advertising. By his math, AOL is worth closer to $16 billion--which translates into an extra couple of bucks for Time Warner shares. For beaten-down Time Warner investors, there's nothing bland about that. -- Stephanie N. Mehta