Original URL: http://www.theregister.co.uk/2006/07/13/aol_considers_change/

AOL hovers on historic decision to quit the ISP market

Considers radical change

By Faultline

Posted in Broadband, 13th July 2006 10:12 GMT

Comment Throwing existing revenue away is a tough business and you can never be sure it's the right thing to do. And it's especially difficult to throw away a profitable cash cow piece of revenue. But that's exactly what the AOL board is being asked to go ahead and authorise by AOL CEO Jonathan Miller.

At the heart of the matter is a major issue about whether or not content is better off being free, with a multiplicity of advertising offerings, or better being a paid subscription service? There's no easy answer to this especially for a company that is currently losing three million subscribers a year.

Even if we all agreed tomorrow that advertising was the best way to drive an internet content business, then we would still have the tricky task of working out how to transition the AOL offerings from the paid world into the free.

And part of the problem is that AOL was less than honest when it collected all of those subscribers in the first place. It never really thought about whether or not what is was offering was worth all the money that it charged. Instead, by getting in early, it asked for money in order to provide a connection to the internet over a dial up line.

The content it offered was supposed to be a way of satisfying its customers without letting them wander out onto the wider public internet and it was usually described as internet access with "safety wheels".

The world has moved on a long way since then, and Miller is right in understanding with some clarity that AOL's cash cow days are all but over. People only pay their monthly AOL bills out of habit, and although habits are sometimes hard to break, the modern world is conspiring to eliminate dial up, even if AOL still has 13m dial up customers.

Convergence, broadband cellular services, IPTV and triple play, VoIP service and video over the internet are all things that dial up customers find it hard to join in with. Video and photo sharing, social networking sites, music downloads both legal and illegal, all require higher bandwidth and at the point that people buy broadband they become aware that they are paying one price for connectivity and another for content. That's the point when they realise they are probably no longer using the AOL content, and drop the service.

The decision to make the internet an advertising place lives in the code of internet explorer. Early browsers would load text first, images second, video last. Now the order is reversed or under website designers' control, and we now expect to load advertising first, navigation second, content last, and that change slipped by us all in about version 4.00 of Internet Explorer. That's one of the big problems of having any kind of software monopoly.

Now that this is embedded in all of our habits, it's difficult to change. And also we inherited the idea that everything on the internet was non-commercial, from back when the internet was released from the clutches of US military and academia in the early 1990s. It has turned out to be largely a good thing that the internet has this "free" ethic, although it has also sponsored large scale content piracy, and destroyed some of the best content businesses in the world, as it threatens to destroy AOL.

The key question to ask for any content business on the issue of charging for content is not "Is this service worth paying for", because many businesses that offered exceptionally good content, for money, over the internet have gone bust.

No the real question is "Can consumers find this content anywhere else?" And when the answer is "yes", then you had better head out of the paid subscriber model.

The uncertainty comes when the answer is "consumers can get something that looks like this, but which is nowhere near as good, for free, and ours is worth paying for". And that's the bind AOL has always found itself in.

There are certain rules out there in internet land, like no-one knows that your content is better if they can't see it, so a password protected content site always gets ignored. If a search engine can see past the password, then at least there will be hits turning up in searches, but if the consumer hits a brick wall when hitting these links, it’s still little better.

And every company out there that offers a similar but poorer service is sat on the internet telling everyone how good its services are, while a paid service is hiding the quality of its services.

In the end the only way to offer paid services is by offering something that can:
a) be easily sampled by passing browsers, and
b) offers content that is both desirable and which cannot be found anywhere else for free.

We have said many times that the three things that need to be satisfied for a consumer product to take off are:
a) I want one
b) I can afford one, and
c) I know someone that's got one and these conditions also need to be satisfied on paid content on the internet, plus the condition d) And I can't get it elsewhere for free.

But there's one more thing that needs to be added here. If content is worth buying, the process by which it becomes known to the average person on the internet has to be augmented in some way. Take for instance the complete failure of companies like Movielink, which sells motion pictures downloaded over the internet.

Because its customer base has never been huge, Movielink fails to generate sufficient peer recommendations for it to take off via word of mouth.

You might argue that this is because pirate sites give away the same content. But other services, such as market research, leading newspapers, and consulting, all sell slowly over the internet. Virtually all their leads come from websites, but virtually all business require a professional sales contact to be made to complete a sale.

The newspapers only have a price so they can protect their paper subscriptions sold through retail, while market research cannot scale with its internet traffic, only with the size of its sales force. What is the point of any service being promoted widely over the internet if its scaling is restricted to how many sales people the company can employ or how many retail establishment the service is available through.

So the rules for driving momentum over the internet is:
a) people want what you are selling
b) they can afford it
c) they can see some of the content for free to sample it or someone will recommend it to them
d) they cannot get it elsewhere for free, and
e) this is not the sort of decision that just cannot be made entirely over the internet.

There are paid services which can satisfy all of these, but AOL content is not one of them, and the company has finally reached that conclusion. In which case its revenues will drive unerringly towards zero, over a long recycling period, probably around five to seven years.

So what strategies can we come up with to help AOL?

These are probably the most obvious possibilities:

Each of these approaches have some issues. AOL has tried funding new forms of content, but has had little in the way of hit record success with the possible exception of its Live8 broadcasts.

And, of course, AOL could never move into any area of business where it was constrained by its sales capability. And if it had tried to build an arms length parallel brand, it would have had to have taken the decision years ago so that a new brand had time to take, so that's not an option now.

AOL has certainly tried to convert itself in to a shopping site, but it didn't make it as a fledgling Amazon.

It's easy to see why Miller has reached the conclusion that he's reached, throwing away all its subscription revenues over perhaps a handful of years, at the same time planting a stake in the ground aimed at ramping advertising.

This at least has the advantage that internet advertising is still growing at around 30 per cent or more, so that even if AOL revenues fall precipitously, wherever they initially land, they will being growing at something like 30 per cent.

AOL had recently tried to do a little of each, confining subscription only services to a smaller and smaller subset of its services, and driving advertising up on the free services, and indeed AOL's advertising revenue has grown up 26 per cent to $392m in the first quarter, but this is little more than 20 per cent of the total AOL revenue at present.

While detractors may point out that both Yahoo! and Google grew their ad revenue far faster, this is all about deciding the exact moment in which to change the corporate culture at AOL.

Big ad spends that sought to drive up subscriptions, at a time when they were falling does something to the staff, it demoralises them, making them believe that their management are inept and their product inferior. That may change overnight.

Certainly, we saw that AOL pulled out of its Upfront TV advertising agreements last week, and immediate savings were dramatic. And revenue falls may not be any more precipitous than previous, since dialup will remain paid and AOL can continue to charge money to anybody that simply fails to notice that the rules have changed and they can now get most of what they get from AOL, for free.

But even here it must be careful. Loyal customers ought to be told officially that services like email are going to be free, and no risk should be taken of them moving from loyal customer to a disillusioned malcontent, through mistreatment. The number of ex-AOL customers that are already bad-mouthing the organisation is already too high given its recent customer care disaster.

Analyst estimates vary but some reckon that an aggressive move by AOL, including rapidly upgrading dial up customers to any number of broadband suppliers where they can keep their AOL email address, could cut revenues by half at AOL this year, and take it from a cash cow to little more than break even.

But the move from collapse, back into growth could enliven the culture at AOL, although a huge number of personnel will have to go. Anyone that doesn't buy into the program has to be cut out and many of the internal services for managing subscriptions etc.. will simply evaporate and the company could run very lean and mean.

Can it rejuvenate its brand? Other companies have.

What needs to stop is the constant bickering that will have been going on internally about which services should be free and which paid. It needs to change or stay the focused on paid services, what it can't do is dither somewhere in the middle, supporting two separate cultures.

After all, AOL will now go head to head with investor and partner Google, and it won't do well by being timid and relying on Grandma's email dial up subscription.

The truth is at the first sign of overall revenue growth, which should be after the third quarter next year, AOL will become worth a whole lot more and that is really the trigger that Miller should be pushing at the Time Warner board.

The company was bought by AOL and then went on to make the largest ever loss in corporate history, but writing off all of its goodwill. This should be about share valuation long term and the board, if it is acting in the interest of shareholders, should nod this through.

AOL says it has captured around 35m web visitors since it opened its new free site at AOL.com. This sounds like a large number, but it isn't because it's over a period of months and each of these casual free visitors spend far less time on the site, so it is serving far less advertising impressions.

In total during May, AOL served 14.8bn internet pages which is a 27 per cent drop from a year earlier, at a time when other web portals are reporting rising traffic.

Finally, according to UK press reports, a new front runner emerged in the race to acquire AOL in the UK, with France Telecom said to be wanting to add AOL UK to its Orange broadband service, for around $1.2bn.

The list of bidders is believed to include British Telecom, Carphone Warehouse, the mobile phone retailer and a recent entry in the broadband market, Telefonica's mobile phone service O2, BSkyB, and Orange, with broker Citigroup saying the deal is likely to be agreed by the end of July. AOL Germany and France are also thought to be on the block.

Copyright © 2006, Faultline

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