By Dom Serafini
I guess that in the corporate world, there’s no easy way to do things. That it was a bad idea for Time Warner to buy AOL in 2000 was well known by most people, apart from Time Warner’s executives. They may have thought they were smarter than a fifth grader but instead got awful marks for their actions.
The funny part was that it was actually AOL that bought Time Warner, because the market value of the tech company was much higher than that of the venerable studio and publishing group. Time Warner was acquired by AOL for $182 billion, by putting up $166 billion of its overpriced stock for 55 percent of the combined company, (and not a single cent of “real” money). This despite the fact that when the last AOL employees turned the office lights off, the assets of AOL went home with them, and Time Warner boasted real assets such as a studio, HBO, a cable company, CNN, and Time, Inc., that made money while sitting in the library. In addition, AOL had annual sales of $4.8 billion in 2000, while Time Warner reached $14.6 billion.
The other funny part is that once Time Warner got in bed with AOL, the latter started to deteriorate with inferior services and lack of innovations.
When Time Warner “acquired” AOL, there were 20 million subscribers. When it spun it off last March, it had fallen to 6.3 million. In 2000, AOL was valued at $166 billion; nowadays it’s $5.66 billion. I guess there is no need to continue. You get the message.
What I’d like to reinforce, however, is the same message that I’ve been barking about since the year 2000, when I was in fact smarter than a fifth grader and the corporate people were not, despite their MBA degrees and my incomplete undergraduate studies.
An impressive body of academic studies exist that all predicted the merger was doomed from the start. Stealing Time, a book published in 2003 (by Alec Klein from Simon & Schuster), described the AOL-Time Warner merger as two big businesses gone awry through cockiness, lack of principles and poor judgment. The book points out that in this case, MBAs cannot be faulted, since Steve Case, one of the merger’s architects and AOL CEO, wasn’t accepted by several MBA programs after college while working as a pizza taster for Pizza Hut. Some of the studies centered on the so-called “Q ratio,” which calculates the replacement value of a company’s total assets. In addition, this factor assigns a higher Q ratio to more focused companies than more diversified companies engaged in vertical integration.
In my view, when a television company decides to control the whole supply chain, it incurs more than just a low Q ratio, but also risky undertakings that usually drag down the stock value of the whole group. This is why the sum of all parts is always greater than the group. Years ago, the U.S. TV networks picked the best shows from producers, gave back the ones proven to be duds and risked nothing in the process. That’s why they were called “licenses to print money.” Nowadays, a costly, low-rated show produced by the same network has to be “amortized,” which means that the network is losing twice: It can’t monetize the show and is not getting the ratings.
Not that horizontal integrations are any better. The typical example is when Paramount purchased Spelling Entertainment, which owned Worldvision Distribution, for $8.2 billion in 2000. At that time, the New York-based distribution company was generating close to $100 million a year, spending just 10 percent as cost to do business. The accountants at Paramount decided to save those $10 million a year by incorporating the sales within its own distribution system. The result was that the revenues from the Worldvision library went down to an estimated $60 million. So, in order to save $10 million, Paramount lost $30 million.
This because the studios’ priority is to sell new series, not library material. Besides, international television programmers don’t buy in bulk from the same company, but rather tend to spread their acquisition budgets among the various studios, not knowing where the next hit will be coming from.
In conclusion, if these “My 2¢” failed to make a dent in the corporate chieftains’ business practices, let’s simply indulge in imagining how great it would be if owners such as Sumner Redstone (Viacom, Paramount) and Rupert Murdoch (News Corp) would spin off most of their companies, similar to what Time Warner did with AOL. The difference in these cases is that there would not be any losers, only winners, and finally, the end of this senseless business “philosophy” called vertical integration, a.k.a. selling to oneself.
