Fool Portfolio Report
Monday, July 8, 1996

Monday, July 08, 1996 (FOOL GLOBAL WIRE)
by David Gardner

ALEXANDRIA, VA, July 8, 1996 -- The Fool Portfolio suffered once again today, although we did manage to beat out the market averages thanks to gains by Iomega, KLA Instruments (subject of a Business Week plug this week), and The Gap. Consequently, we lost 0.60%, while the S&P 500 and NASDAQ lost 0.75% and 0.82%, respectively.

Today's loss may once again be largely attributed to our shares in America Online, which dove another $3 1/4... America Online, what seems like everyone's least favorite stock these days. Whatever "HOT HOT" go-go qualities the stock possessed over the past few years now seem utterly absent as I write today... not only does AOL not seem cool anymore, it also doesn't seem a very healthy entity.

Recent company history has featured everything from the fast dismissal of the newly named chief of operations, to a $22 million suit (settled today) for billing practices, to a psychologically telling Steve Case divorce, to the company's admission that churn rates are high and resources formerly provided for customer acquisition (which once drove the stock price so dramatically) may be redeployed. Oh yeah, and the stock has been cut in half.

But what this really comes down to, my fellow Fools, is content.

Is your experience the same as mine? There's just seems to be too much stuff on AOL today, and every other AOL area I enter (be it the sign-on screen, the sign-off screen, or lotsa things in between) is shouting at me that I can WIN A MILLION DOLLARS! It's the "What I$ It?!?" contest -- hard to miss the thing. Read Steve Case's July letter and you'll find it promoted three separate times (with three hyperlinks). I like Steve a lot; he's the main reason we continue to hold the stock. But that's sad.

To modify one of Shakespeare's most oft-quoted Shakespearisms, "The content's the thing!" It's what AOL is sometimes trying to transition into, becoming a content company, becoming "about content." But the single greatest factor behind the stock's 47% decline from its high just two months ago is customer churn, and a failure to grow membership at strong ongoing rates. Why would that happen, do you think? Why would existing people cancel their accounts, and why would new people be harder to find? Answer is simple: People want good content that is easy to find. And they're just not getting it.

It's not too hard to figure out why. In fact, it stares me in the face as I sign on and sign off, a process that occurs for me 4-10 times a day. Yep, there it is again (to cite it again as an example), the "What I$ It?!?" promotion, the one you'll probably read on your AOL sign-off screen today AND your AOL sign-on screen tomorrow. AOL's biggest promotional effort these days involves pushing the online equivalent of lottery tickets!

Down-and-outers purchase these at 7-Elevens... I don't think that's what AOL's front screens should be devoting themselves to, or what this medium should ever be about. I see churn with a capital "C."

Take another high-profile example. Something else you'll see promoted all the time these days is a new area (jointly owned by AOL and New Line Cinema) called The HUB, aimed at teens and young adults. The Hub has actually even been accorded the lofty compliment of being its own "channel" on AOL's new department list. It consists of essentially completely untested content dreamed up by market researchers who think high-strung adolescent kids want to spend $2 or more an hour for schlock. (No candy-coating of words about this one.) Now, as a shareholder, I'd love for this prospect to work out. But as an observer, I see mostly a failure that is consuming big promotional resources, is of little redeeming value, has gotten comparatively few postings relative to its promotion, and today features the following on its main screen: girly pin-ups, "DreamWorldNews," "Live Dream Analysis," and "Nipples: a natural fad." Click the Quote of the Day on that screen for predictable more of same.

I guess I understand that some businesses need to sell out, blatantly, to grow. But apart from that, what am I as a shareholder to make of my company's judgement that this enterprise merited its own "channel"? Or, of my company's judgement that it should get its own channel pre-launch? Does AOL's vision include an understanding of truly good content? What conclusions about AMER is one to draw from The Hub?

(On a side note, hey, if you want to provide pornography, just go for it. Plug in every porno Web site in existence and don't mince words about it. If it's that kind of service you want, if that's the sort of business you're running, don't hold back, guys.)

Slowly but consistently, our company seems to be losing its grip on what got it where it was: a good member experience. Today, AMER spends more time creating additional (often redundant) content than it does guiding readers to good existing things, and promoting them into franchises. AOL, which should compete effectively with the way-too-big Web by filtering out all the stuff and giving you limited top-quality offerings, instead today increasingly looks just like the Web: junk everywhere and more coming, soft-porn promos and lottery tickets, and on top of that, the CEO pounding the table for them. When you divert your resources AWAY from your successes, you lose customers, and you lose vision.

In the past, AOL has stressed that it wants to program its service like television -- complete with programs, channels, and stars. Ironically, when it comes to promotion, the service seems to have avoided the successful television model altogether. Where NBC takes its number one audience-retaining program and builds an entire lineup around it (the "Friends" network), AOL pursues a model that aggressively promotes big business deals ahead of big audience draws.

As the primary explanation of churn, this is a strong concern for shareholders. Today, we see far more content and partners than a year ago, and far less satisfaction from churning customers... the message is not difficult to read. Rather than give people a reason to be online, AOL is confusing them by offering too much, not letting on as to what's actually good and useful, and burning up promotion on fluff.

OK, now what I've written above is simply my own thinking about this, and is offered in the spirit of constructive criticism. The solution to the problems provided above are so obvious that I won't waste time there. You may be wondering, given what I've just written, why in heck we still own these shares. Here's why: we believe in Steve Case -- he's a brilliant, engaging business thinker, a great guy, and the primary figure who's sold America on this medium-- we believe in this medium, we believe that AOL can and will return to its former strength, and we invest for the long term. Over the long term, I continue to believe this stock will outperform market average for the foreseeable future. As an investor, that's pretty much all I bloody care about.

Looking at current sentiment, the bad news seems at this point largely out, and everyone hates AMER stock; you can just tack today's frivolous lawsuit on as more bad news out (the lawyers, by my count, made off with $5 million). That's fine... we're Fools, and we don't mind it when the conventional wisdom disagrees with us... in fact, we relish it. May sound strange, but I like this stock, especially at current prices. Part of being a Fool is holding a stock through good times and bad, because you fundamentally believe in the product, the industry, and the management. America Online today has more readers than USA Today, The New York Times, and The Wall Street Journal combined. The new 3.0 for Windows client (and the coming Mac version) are outstanding. I expect AMER to remain a successful entity in the future just as it is today, was last week, last month, and last year. At the same time, perhaps these views from one online publisher to another will be of benefit; if not, well, it's just another Fool Portfolio recap.

Final note to investors: both America Online and Iomega, our two biggest holdings, have essentially been cut in half over the past two months. Yet the Fool Portfolio closed today up 54% for 1996, vs. an S&P 500 gain of 6%. Conveniently, that illustrates two key investment lessons. First, those who hold their winners may be penalized by the market from time to time for doing so, but just look at the big picture! Second, diversify your portfolio: you need to be able to handle the occasional precipitous decline by spreading your initial monies into several different investments. Two of our horses have been crippled, but the other six have taken up the slack (can you say Medicis, GE, and The Gap?). That's very comforting, and you should be deriving the same comfort from your own Foolishly balanced portfolios.

Fool on!

---David Gardner, July 8, 1996

Today's Numbers

Day Month Year History

FOOL -0.60% -4.36% 53.72% 187.04%

S&P 500 -0.75% -2.70% 5.94% 42.35%

NASDAQ -0.82% -3.05% 9.19% 59.52%

*Scroll down or expand screen for full portfolio accounting

AMER -3 1/4 ...CHV ---...GE -1 3/4 ...GPS + 1/4 ... IOMG + 7/8 ...KLAC +1 1/8 ...MDRX -1 1/4 ...S -1...

Rec'd # Security In At Now Change

5/17/95 2010 Iomega Cor 2.52 28.00 1011.57%

8/5/94 680 AmOnline 7.27 37.88 420.77%

4/20/95 310 The Gap 16.28 31.50 93.55%

8/5/94 165 Sears 28.93 46.00 59.03%

1/29/96 250 Medicis Ph 27.86 41.75 49.86%

8/11/95 95 GenElec 57.91 83.88 44.83%

8/11/95 110 Chevron 49.00 58.88 20.15%

8/24/95 130 KLA Instrm 44.71 21.63 -51.63%

Rec'd # Security Cost Value Change

5/17/95 2010 Iomega Cor 5063.13 56280.00 $51216.87

8/5/94 680 AmOnline 4945.56 25755.00 $20809.44

4/20/95 310 The Gap 5045.25 9765.00 $4719.75

1/29/96 250 Medicis Ph 6964.99 10437.50 $3472.51

8/5/94 165 Sears 4772.65 7590.00 $2817.35

8/11/95 95 GenElec 5501.87 7968.13 $2466.26

8/11/95 110 Chevron 5389.99 6476.25 $1086.26

8/24/95 130 KLA Instrm 5812.49 2811.25 -$3001.24

CASH $16434.53

TOTAL $143517.66