Life for AOL after the worst deal in history

After a painful demerger from Time Warner, profit warnings and asset sales, Stephen Foley asks if AOL has a future

AOL's life as an independent company has not started well, the internet pioneer confessed to investors, and a profit warning yesterday left analysts asking anew whether the company has a future.

In the throes of reinventing itself as a US-focused media company, AOL's sales reps failed to bring in the advertising revenues that had been expected, the chief executive Tim Armstrong said, but he insisted that work to refashion AOL for the next decade would bear fruit.

Investors will once again see AOL as "an internet growth company", he promised – but a 13 per cent plunge in the share price in late afternoon trade suggested Wall Street believes that the former Google executive has an uphill battle at his new charge. Question No 1: how will AOL make its websites stand out from the crowd?

Time Warner spun off AOL at the end of 2009, eight-and-a-half years after the pair merged in a deal that became an emblem of dot.com mania. At the start of the last decade, AOL was riding high as America's first mainstream internet company, having pioneered dial-up internet for ordinary households. But the advent of broadband meant that households soon did not need to sign up to a subscription service, and AOL has most recently been trying to reinvent itself as a media company, offering content mainly for free on its network of websites, and has been racing to cut costs to make up for the eroding income from its old subscriber base.

"Our results highlight the accomplishment of our first goal in AOL's turnaround which was to significantly reduce the cost structure," Mr Armstrong said yesterday. "We are now entering the second phase of AOL's plan which is to greatly improve the consumer experience and to scale the advertising systems and teams."

Specifically, he promised new and unique content to drive visitors to AOL's sites and services, such as its recent coverage of the South by Southwest music festival in Austin, Texas, when it posted 2,000 articles and videos about the bands that performed. We have 3,500 staff and freelance journalists, he said, including nine Pulitzer prize winners.

But while AOL boasted 100 million visitors to its sites in the first three months of the year, that was down 6 per cent from the same period in 2009. Revenue from advertising sold on those sites also plunged, by 19 per cent. On revenues of $664m (£437m), down 23 per cent from last year, the company managed earnings of $34.7m, down from $82.7m and below Wall Street expectations.

Analysts on a conference call to discuss the results wanted to test the company's explanation for the sales collapse, which was much worse than that suffered by other internet companies, namely that a salesforce shake-up was causing disruption. The 20 per cent of ad salespeople whose jobs had not changed were all beating their targets, Mr Armstrong said. The effects of the shake-up will continue to hit ad sales for the rest of the year, he warned. Yesterday's share price decline pushed AOL stock back to where it started trading after the spin-off in December.

Shelly Palmer, technology and media consultant and founder of Advanced Media Ventures, said the company is struggling with many of the same issues as other internet sites, because advertisers do not yet know exactly what to pay for display advertising placed alongside content.

"The ad industry is rethinking the distribution of ad dollars," he said. "We could see a lot of companies missing their gross numbers, but actually making their advertisers happier."

In other words, the focus on better targeting of ads for customers, and the investment in new ad systems, could save AOL, he said. "AOL has been declared dead 50 times. The number of people who have given the last rights is legend."

For the time being, there is still more pruning to be done of the old businesses that Mr Armstrong does not wish to keep. He has already shut down many of AOL's international operations, and scaled back the rest, such as the one in the UK. And the company promised a decision by the end of next month on the future of Bebo, its social networking site for teenagers, which it will sell or shut after it suffered declining user numbers.

Yesterday, the company announced the sale of ICQ, an instant messaging service that has been part of AOL since 1998. The sale, to Digital Sky Technologies, a large Russian and eastern European internet company, for $187.5m was below analysts' hopes of $200m-$300m.

In a recent note to clients, MorningStar analyst Larry Witt predicted years of downsizing still to come for AOL. "We think the combination of a shrinking audience and alternative options for marketers will make it more difficult for AOL to attract advertising dollars," he said.

The turbulent times of AOL

1985 AOL begins life as Quantum Computer Services, whose first online service, Q-Link, allowed Commodore 64 users to download software and information, play games and chat online.

1989 Members hear the phrase "You've got mail!" for the first time.

1991 Quantum is renamed America Online Inc, and goes public a year later.

1998 The company embarks on an acquisition spree that will see it buy CompuServe, ICQ, Mapquest and Netscape by the end of 2000

2000 AOL's $350bn merger with Time Warner, announced in March, marks the peak of the dot.com boom. It becomes known as the worst deal in history.

2006 As broadband internet becomes ubiquitous and dial-up subscribers cancel in droves, AOL begins offering free web services, promising to recoup the money from advertising.

2009 Time Warner decides to spin off AOL and it becomes an independent company again on 9 December.