AOL: Anatomy of a Long Shot

An inside look at how it developed a make-or-break broadband plan

Eight AOL Time Warner Inc. (AOL ) executives are huddled in a Dulles (Va.) conference room. The question: Should they banish obnoxious pop-up advertisements from the AOL site? America Online Inc. Vice-Chairman Ted Leonsis argues that pop-up ads should be snuffed out. They annoy subscribers, he says. AOL CEO Jonathan F. Miller sides with him. But Miller's boss, AOL Time Warner Chairman of Media & Communications Don Logan, defends the ads, which bring in $100 million per year. Logan, says a source at the meeting, argues that while consumers gripe about these ads, they put up with them.

A nudge from AOL Time Warner Chairman Stephen M. Case helps settle the matter. Case, who long held back from jumping into operational decisions at AOL, sends an e-mail to the group urging that they drop the ads. Case's name is mud among many Time Warner faithful, from executives at headquarters in New York to investors around the world. Since Case pushed through the $100 billion merger of America Online and Time Warner, the combined company, battered by management turmoil and accounting scandals, has lost about $40 billion in market value. But at AOL's headquarters in Dulles, the house that Steve built, Case still carries weight: The group moves to phase out pop-up ads.

Similar debates have been raging for months at AOL. Since Miller took command of the online business in August, he has been on a uphill mission to resurrect the company. This activity reached a fever pitch this autumn. From Sept. 19 to the New York unveiling of his new plan for AOL on Dec. 3, Miller led AOL executives on a forced march to remake the company--and he provided BusinessWeek with an inside look.

What emerges is a view of an iconic company navigating a frightening transition. Miller's troops have their backs against a wall. After weeks of debates, his team has concluded that the only real choice for the company is to plunge headlong into broadband. That's a world where even the basics, such as revenue and subscribers, are a big if.

The stakes are as big as the company itself. This has created a heightened sense of urgency, which is ushering in striking cultural changes. Legions of AOL's true believers, folks who dreamed of a community of Netizens, have wrested control from the advertising faction, long personified by Robert W. Pittman, the former AOL Time Warner chief operating officer who left under pressure in July. In this new climate, Steve Case, the original true believer, is naturally a welcome figure. He's more involved these days and is exerting far greater influence than outsiders think.

Miller's strategy, which he outlined before a crowd of analysts at the Sheraton New York on Dec. 3, calls for creating compelling online offerings that will entice subscribers to stick with AOL when they graduate to broadband Internet access. It's an audacious plan--and a long shot. To make it work, he aims to bulldoze fiefdoms within Time Warner and to tap into that company for original exclusive programming, from CNN to new online comedy produced by HBO. The idea is to keep subscribers loyal and willing to pay extra for AOL's features even while subscribing to a rival company's broadband offering. "We used to measure ourselves by how many people we brought in the front door. That ends now," Miller said on Dec. 3. His new mantra: "increasing the lifetime value for customers."

AOL Time Warner is betting its future that Miller's plan will pay off. True, it forecasts flat revenues of $9 billion next year, and a decline of 15% to 25% from this year's expected $1.8 billion in earnings before interest, taxes, and depreciation. But in 2004, the company predicts, the new strategy will kick in and generate double-digit EBITDA growth. "This is not a wasting business," says AOL Time Warner CEO Richard D. Parsons. "In the next couple of years, it's going to become the growth driver for all of the AOL Time Warner businesses."

That's a tall order--so tall that many think the new strategy is doomed to fail. AOL is not only rushing pell-mell into a multimedia dream unproven as a business, it's also banking on promises of synergies that have crumbled before, undermined by powerful warring fiefdoms of the parent company. "It's a leap of faith," says John Tinker, media analyst at Blaylock & Partners LP. "They're throwing lots of stuff against the wall to see what works." Investors are skeptical, too: AOL's stock traded down 14%, to $14.21, on Dec. 3. Even Case agrees that "none of this is a quick fix."

But if AOL defies the odds and latches on to a winning formula, it could sit atop the media world. In Net access, it still maintains a fourfold lead over No. 2 MSN, with its 9 million subscribers. But if AOL fails to free itself from its dial-up roots, the company could follow the path of Western Union, a communication titan from the telegraph age that was eclipsed by faster technologies.

AOL has little choice but to climb on the broadband wagon. The number of households with high-speed Net connections is expected to double to 32 million over the next three years, according to Jupiter Research. Yet AOL has lined up only 650,000 subscribers for its broadband package. And elsewhere, AOL must pay cable companies so much for each customer's access that they're left with thin margins. Worse, the company is losing some 200,000 subscribers per month to other broadband providers. And AOL's dial-up market is expected to start shrinking by the end of next year.

What will replace it? AOL plans to charge from $2.95 to $17.95 per month for a host of offerings. They range from phone services that electronically read e-mail to interactive shows featuring the galaxy of Time Warner stars. The whole industry, from MSN to Yahoo (YHOO ), is chasing similar visions. But to date, premium services haven't sold. "It's going to be difficult when so much free stuff is on the Web," says Jupiter Research analyst David Card.

Miller, a former top exec at USA Interactive Inc. (USAI ), has a track record of Internet success. He lifted profits and growth at that company's and travel Web sites. But when he set a strategy meeting for Sept. 19 at AOL headquarters, he faced a far greater challenge.

Miller planned to give his top 35 execs the talk of a lifetime. He would let them know that it was up to them, over the following six weeks, to map out a future for AOL. Sure they were disheartened, but after two years of merger madness, infighting, broken promises, and stock options far under water, the company was theirs again.

The speech didn't go as planned. Miller emerged late from an AOL Time Warner board meeting in New York, and his corporate jet couldn't get him to Dulles in time. So as the managers munched on an austere spread of cheese, crackers, and celery sticks, Miller, from a runway at a Teterboro (N.J.) airport, talked to them on his cell phone. His voice came through a single phone, and the execs craned to hear him as he appealed to their wounded pride: "We need to take back the right to define ourselves."

Miller's message worked a certain magic. For the next two months, the hallways of AOL, thumping to nonstop rock music, bustled with busy planners and programmers. Their days were endless, packed with arguments and the prospect of wrenching change. It was as if the entire company was going through therapy. It involved nothing less than stripping away the comforts of the past and groping for a new identity.

It started with a series of sprints. Miller formed a steering committee headed by Leonsis, Vice-Chairman Joseph A. Ripp, Interactive Services President James de Castro, and AOL International CEO J. Michael Kelly to ride herd on 17 teams. Their first job? To answer within 10 days a mind-numbing 500 AOL questions assembled by Leonsis' pointman Dan Krifcher. The goal was to have a new strategy ready for Miller to present at the board meeting, on Nov. 21.

Even before Miller joined the company, a grassroots back-to-basics movement was taking hold. Rebelling against the incessant bad news from Wall Street and the press, a band of midlevel managers in May started a morale-boosting campaign they called The Optimism Movement, plastering "Members First!" posters around the campus. So when Miller asked his troops to help him remake AOL, he had lots of supporters.

Of all the executives on Miller's team, AOL Broadband President Lisa A. Hook had the biggest hurdle to clear. For years, AOL had offered its bring-your-own-access service for broadband customers. But the company resisted putting its marketing might behind the offering. It didn't want to cannibalize its massive dial-up access business. Now, Hook was arguing the opposite. One-quarter of AOL's defectors were switching to broadband connections from other providers. Hook recommended that AOL aggressively push a $14.95-per-month service independent of AOL's access--in addition to offering $54.95-per-month packages combining AOL and broadband connections.

Hook defended her broadband push with a sparkling vision. It was up to AOL, she said, "to recreate the dawn of television." But her ideas set off a firestorm. In subsequent meetings, steering committee member Kelly sharply questioned whether she was sidestepping the hard work of hammering out bundling deals with cable and telephone companies. "Sometimes you make decisions just because what you're doing is too hard," he said. Once again, it was Chairman Case who weighed in, telling Miller he agreed with Hook. Kelly relented.

Still, a strategy based on content can collide with advertising. Longtime AOL manager James P. Bankoff learned this after he took over as chief of programming last June. It took him three tries before he made a presentation that satisfied Miller. At an Oct. 3 meeting, he stressed "monetizing" AOL's Web pages by selling ads and encouraging visitors to make online purchases. But that's AOL old-think. At a second meeting, he argued for putting programming quality first. Better. And at a Nov. 7 meeting, he laid out a half-dozen areas in which to improve programming, including games and music. Miller approved.

Later, Miller asked his lieutenants if AOL should have an editorial point of view--the way Fox speaks from the political right and CNN from the center. Leonsis said: "We would want to hold the mirror up to our membership"--which is conservative, closer to Fox's politics than CNN's. Miller jumped in: "Then that would be our voice." But his team has yet to assess the risks of an editorial voice, or to figure out how to create one.

At this juncture, AOL's most important voice, Miller's, is busy telling the world that the company has a future in broadband. Miller had his forced march, and he has his strategy. Now comes the big job: saving AOL.

By Catherine Yang in Dulles, Va.

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