Is AOL the Next Microsoft?

Given the fundamental differences in what they sell, the parallels between pre-merger Internet service provider AOL Time Warner (NYSE: AOL) and king software developer Microsoft (Nasdaq: MSFT) don't exactly jump out and grab you. When you stop and think about it, though, the similarities are obvious.

As much as any other development in the last quarter century, the personal computer -- an industry that Microsoft has ruled from the center -- has fundamentally changed the way most Americans work and recreate. Until the Internet arrived, that is.

And who dominates the Internet? Say what you will about AOL's service quality, there's no denying its 27 million registered subscribers, scattered from coast to coast, a reach that dominates not only all other Internet properties, but also dwarfs circulation rates for leading magazines and newspapers. As much as Microsoft has controlled our personal computer experience, on the whole, AOL has managed our consumer concept of the Internet.

Moreover, as each has carved out its stronghold in the consciousness of the American consumer, neither Microsoft nor AOL has employed technical sophistication, at least not as its trump card. Instead, each company is a textbook business school study of speed to market, marketing prowess, and network effects (the more that buy it, the more that buy it).

What pushed Microsoft's DOS platform to the front in the early days of the PC wasn't anything complicated, like warp-speed processors or lightning-quick video cards. It was something very simple: the ability to painlessly share data with friends and fellow workers.

Similarly, AOL's ace in the hole has also been something very simple: buddy lists, instant messaging, and online chat. My first Internet experience -- as a college computer center employee in the mid '80s -- was basically instant messaging. Sending lines of text to overseas pen pals with a single keystroke seemed pretty amazing back then. Recently, I logged on to an AOL account primarily used by my two teenage nieces and found it nearly impossible to take care of my quick Web transaction amid the hail of IM requests (yes, I know that I could have disabled instant messaging, but as a typical American consumer, I couldn't be bothered with the technical detail).

As the colorful messages rained down, from the likes of BigGuy07 and LaydeesMan, I was struck by how little has changed since my first Internet experience, all those years ago. The big change is not in the technology or even the service, but the ubiquity of Internet access. Make no mistake about it, simple instant messaging remains a centerpiece of the AOL Internet environment and -- aside from its huge subscriber base -- its most compelling business advantage.

Who gets it
Think I'm exaggerating? If instant messaging isn't such a big deal, do you think that Bill Gates would actively -- even personally -- lobby the Federal Communications Commission (FCC) to condition approval of the AOL-Time Warner merger on an end to AOL's instant messaging stranglehold? Think Gates might have felt just a little silly asking the federal government to jump in and open up a computing standard to encourage competition? My guess is that only the most compelling of business imperatives could get a busy tycoon to eat that kind of crow. Microsoft gets it.

It's also clear that the feds get it. Although it won't dampen the virulent rhetoric of those zealots who believe the government should have absolutely nothing to do with the private sector, both the Federal Trade Commission (FTC) and the FCC have consistently supported free and fair competition in their handling of the merger. Both of the key merger conditions -- open cable access and a standard protocol for broadband instant messaging -- seek to prevent a single player from "wiggling" a key technical platform in such a way that competitors who depend on the platform find themselves powerless to compete. Anybody see a Microsoft parallel?

Who doesn't get it
In the not-so-distant days of the free Internet access craze, our Fool discussion boards were swamped with caustic manifestos from the technical elite predicting the end for no-tech villain AOL. Sensibly, they asked how a company could possibly charge 20 bucks for a service that was inferior to free competition. I have to admit, I wondered myself.

In retrospect, we all committed the cardinal business sin of overestimating the American public. This is, after all, the nation that gave the world McDonald's (NYSE: MCD); The National Enquirer, a news business based on "stars" and sensational hit stories; Coca-Cola (NYSE: KO); and professional wrestling. It's not technical supremacy, quality, and value that woo American consumers. It's convenience, hype, and contagion that hook us, and then inertia, trust, and brand that lock us in. Both Microsoft and AOL have ably demonstrated this phenomenon. Daily, it seems, AOL shows me its knack for the lowest common denominator -- what sells -- with the obligatory front-page, semi-nude picture of Britney Spears (got ya!).

Will the merger affect AOL's dominant position?
On the upside, AOLTV might be able to succeed where Microsoft's WebTV has failed, by adding AOL's killer app -- instant messaging -- to the experience. It's true, the FCC has insisted that AOL open the messaging protocol to broadband competitors, but AOL will still have the subscriber base. Furthermore, Time Warner adds set-top box expertise to AOL's investment in Liberate Technologies (Nasdaq: LBRT) as both a platform for AOLTV and an equity holding. Fleshing out the "next Microsoft" theme, this aligns AOL with the core of the anti-Microsoft camp, as Liberate Technologies is the brainchild of Gates' archenemy, Oracle (Nasdaq: ORCL) CEO Larry Ellison.

While it's hard to imagine many people going online for an extra factoid or two on their favorite sitcom or the movie of the week, it's easy to see people, especially teens, chatting away via instant messages at the bottom of their TV. I can already see the tension-breaking "What a dork!" flashing on my nieces' TV screen, as a socially awkward teenage heartthrob begs a date on Dawson's Creek. Instant messaging is a natural addition to teen-oriented cable packages. If this strikes you as silly and frivolous, consider the possibility that you might not be cut out for marketing to the American public, but you can be sure that AOL is.

On the downside, by going the merger route rather than the partnership path, AOL clearly spits in the face of new-economy doctrine, by taking on weighty assets without a lock on outsized returns. One need look no farther than splintering of the old AT&T (NYSE: T) to see the predominant trend among media and communications companies, the trend that AOL has ignored. Perhaps AOL should have followed the partnership model laid down by Microsoft in joining with the NBC broadcast network to form MSNBC, the combined cable and Internet property.

In a series of obvious ironies, stretching all the way from AOL's efforts to avoid open access (a complete reversal of its pre-merger position) to Bill Gates' request for government interference, the biggest irony of all could turn out to be more subtle. Maybe the new Microsoft ignored a new-economy partnership model fashioned by the old Microsoft.