Why AOL is a great buy for Verizon
In the undistinguished annals of business flops, of deals that should never have been done, one stands above all others as a gold-plated, premier league, 100 per cent catastrophe: the calamitous coming together of media giants AOL and Time Warner back in 2000 (it is often described as a merger but strictly speaking, AOL acquired Time Warner for $164bn, with AOL shareholders owning 55 per cent of the new company, Time Warner 45 per cent).
On paper and at the time, it looked like a good idea. Time Warner could create the content (from TV, movies, music and printed media), and AOL could then distribute it via the new-fangled internet.
These days AOL might be seen as a small player, a terminally unfashionable rump legacy business, but 15 years ago it was at the top of its game: it was a giant, and one that seemed to hold the keys to the web (we can all remember those endless AOL CDs attached to magazines and that were stuffed through our letterboxes). Time Warner had been struggling to develop an online presence, so hooking up with the dominant player in online distribution must have seemed like a stroke of business genius.
However things didn’t quite work out like that. There were cultural clashes between the two companies, the dot com bubble burst shortly after the merger, ad revenues collapsed and AOL had to take a writedown of $99bn in 2002. By that time, shares of the company were worth just 10% of what they had been two years previously. Most crucially of all, although AOL was king of the dial-up internet world (its business model was based on usage and monthly subscriptions), it had no presence in the fast-developing always-on broadband market – and that was what people ultimately wanted.
In the end, with investors having taken a massive hit, the two parties demerged, with Time Warner spinning off AOL as a separate company in 2009. Since then, both companies have bumped along, doing OK-ish, without ever getting anyone excited – indeed, when I mention AOL to people these days, many are surprised it still exists.
But exist it does – and it has proved interesting and exciting enough for someone to shell out $4.4bn (£2.8bn) for it this week (subject to the usual regulatory go-ahead). The buyer was Verizon, the giant US mobile phone network (it’s actually America’s biggest, with an estimated 130 million-plus subscribers), which had been circling AOL since January this year; it paid $50 per share (a 17 per cent premium on the closing price the day the deal was announced), thus valuing AOL at $4.4bn.
Why did Verizon buy? Firstly, AOL is actually a decent company these days, if a small player compared to the likes of Google or Facebook. It owns a selection of high-profile websites, including The Huffington Post, Engadget and TechCrunch, as well as aol.com. It even still has two million dial-up customers!
But I suspect it wasn’t the estimable HuffPo and the dial-up service that got Verizon excited. What this deal is really about is mobile advertising.
Surprisingly enough, AOL is a leader in advertising. Its ad platform for mobile and online is highly rated, and the third most-used after Google's and Facebook’s. Without getting overly techy about it, AOL's technology makes it easier for ad agencies, publishers and brands to get ads in front of [the most appropriate] customers on video and publisher sites across desktop, mobile, tablet and TV. Revenue for this 'platforms' unit, grew 21 per cent to $280m in the first quarter of 2015. The 'brand' group, which includes the media sites like HuffPo, reported an 8 per cent revenue gain to $193.4 million.
Decent figures, but you can see where the growth is going to come from in the future. Indeed, Verizon's president of operations, John Stratton, said at an industry conference on Tuesday (12 May): "Certainly the subscription business and the content businesses are very noteworthy… but for us, the principal interest was around the ad tech platform."
Friends and colleagues have asked me whether I think Verizon has overpaid. I don’t think they have – indeed, they might have got themselves a bit of a bargain.
Total digital ad spending in the US is expected to increase 15 per cent to $58.6bn this year, research firm eMarketer estimates. AOL is behind the leaders, owning just 2.1 per cent of the $50.7bn US digital ad market in 2014 (Google leads with 38.2 per cent, while Facebook has a 17.4 per cent share). AOL is also a leader in video; it’s third only to YouTube and Facebook in terms of global unique views.
But as countless companies, from Nokia and MySpace to AOL and BlackBerry can attest, things move very quickly in the tech world. While predicting the future in such a fast-moving world is a bit of a mug’s game, it’s clear that all of us are migrating away from the desktop PC and living room TV to mobile devices.
The digital ad market is still shifting as new devices and consumer behaviour evolve quickly. Verizon, like many of its competitors, sees consumers migrating in droves to mobile video. More than 153 million in the US will watch TV shows on digital devices at least once a month this year, eMarketer says. That's nearly half of the US population. In the UK, 21.6 million mobile phone users in the UK will watch digital videos on their devices this year, up from 8.8 million in 2012. By 2017, this is expected to be 25.8 million [Source: Statista].
Advertisers want to be where the viewers are, so mobile ad spending is expected to go up [$28.7bn in the US this year, up 50 per cent on 2014, according to eMarketer, and about $158bn globally].
Increasingly, these ads are delivered via "programmatic buying", or a computer-automated buy-sell process — such as the one AOL developed. More than one-fourth (28 per cent) of all digital video ads will be purchased "programmatically" this year, increasing to 40 per cent next year. So although AOL is a smallish player right now, it has the potential to be huge.
So Verizon gets a lot of bangs for its bucks: good content, a great ad automation platform ('manual', as opposed to automated ad buying is dying out in the online world, although of course it remains important in old media such as TV and print), the net’s third biggest video channel… and now that it owns the AOL ad platform, it gets to keep more ad revenue for itself.
And perhaps most importantly of all, it can increase the quality of the ads it serves (ie sending the right ads to the right people at the right time), by marrying the vast amounts of data it has about its users with AOL’s ad serving tech. A marriage of this kind means that Verizon has the potential to challenge Google; Google and Facebook got to where they are today by knowing an awful lot about their users, and were therefore able to serve them the most relevant and useful advertising.
AOL’s ad technology will also come in handy for a video streaming service Verizon is said to be planning to launch this year. In January 2014, Verizon bought Intel's online TV platform, which will probably serve as the underpinning for the new streaming service (providing the rumours are true). This will give it an advantage over its rivals at home and abroad.
Talking of abroad (well, the UK, actually), it will be interesting to see what BT will do next. It seems to me that the old British Telecom, like Verizon (and to a lesser degree, UK rival Vodafone) is trying to become a kind of one-stop shop for entertainment and online/mobile advertising.
No longer just a landline provider, it has made serious roads into broadband, is giving Sky a run for its money in pay-TV and looks certain to snap up mobile network EE, subject to regulatory approval. But it seems to me that it lags behind a bit in the mobile ad space, and needs to start catching up, fast.
I predict interesting times ahead…
Andrew Moss is a partner at Green Square, corporate finance advisors to the media and marketing sector