You've Got Settlement!

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Note to self: Don't get on New York attorney general Eliot Spitzer's bad side.

Time Warner (NYSE: TWX) has settled with the state of New York for what Spitzer had alleged were shady customer-retention practices. His office had received numerous complaints from consumers who were given a hard time when they contacted AOL to cancel their service.

With bonus incentives handed out to customer service reps who were able to dissuade callers from canceling their AOL service, it was easy to see how things could have gotten out of hand. Reps were motivated to turn up the hard sell and, according to some customer complaints, kept customers on as subscribers even after they had requested the service's termination.

Some refunds and $1.25 million is AOL's price for making amends with Spitzer. It also must reform its customer service department to reflect a more consumer-convenient approach to tackling future cancellation requests.

Cancellation, unfortunately, is something that AOL knows all too well. In September 2002, AOL's subscriber base peaked at 26.7 million users. Every passing quarter since has seen the net defections continue. Right now, Time Warner's flagship service retains just 20.8 million of its subscribers.

Cheaper online access and a wide range of broadband providers have eaten away at AOL from both sides. This doesn't excuse America Online's lack of growth. Rival United Online (Nasdaq: UNTD) keeps growing its pay accounts. Earthlink (Nasdaq: ELNK) has also managed to grow its subscribers over the past year. Folks are still flocking online. They're just not flocking to AOL.

That's why it's easy to see why AOL keeps emphasizing its AOL.com portal over its proprietary service. Online advertising is booming, and this is AOL's chance to reach those users it failed to keep as paying customers.

So is the settlement good for AOL? Well, New York residents made up less than a tenth of the service's total subscriber base. The company settled with customers in Ohio earlier in the year, and more states may come over for a nibble.

What is disheartening is that even with dissuasive reps who won't take no for an answer, AOL's base continues to shrink every three months. Let's hope that the Web-wide AOL.com site can start to pick up the slack. If not, following in the now irrelevant footsteps of Prodigy, GEnie, and CompuServe wouldn't be in Time Warner's best financial interest.

Time Warner is a past recommendation of the Motley Fool Stock Advisor newsletter service.

Longtime Fool contributor Rick Munarriz has been an AOL subscriber since 1992. Yes, he really does like it there. He does not own shares in any of the companies mentioned in this story. Rick is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. The Fool has a disclosure policy .