June 13, 1996
AMERICA ONLINE BLITZED ANALYSTS of both schools yesterday at the Partner's Conference, hitting high point after high point. A new interface with significant improvements available within two months on all platforms. New technological developments that maintain America Online's ease of use lead over the Web. Savvy joint ventures with Web-based partners that mix and match the best of AOL with the best of the Web. A rapid ramp-up in the advertising effort that is bearing fruit now. A rapid roll-out of international services with significant efforts in making them look and feel "native." Enterprise AOL generating business customers for America Online by building "Private AOLs", cutting in on the burgeoning intra-net market. And on top of all this, announcements and pending announcements coming from companies like MACROMEDIA (NASDAQ: MACR), NETSCAPE (NASDAQ: NSCP) and INTUIT (NASDAQ: INTU) all have them ducking under America Online's big tent.
THE NEW INTERFACE America Online 3.0 for Windows is available now. The Windows95 and Macintosh versions will be out in July and August respectively, with America Online launching a massive marketing push after all the bugs have been worked out. The company stressed an expensive marketing campaign over the summer that would simply put soon to be out-of-date copies of America Online in the hands of consumers would be a stupid waste of money. Rich text formatting, hypertext, HTML tags and all sorts of whiz-bang gadgets that enhance the look, feel, function and community.
Something as simple as Buddy List, for instance, enables new interactions that otherwise would not have happened -- what online services are all about. A Buddy List is a small window that sits open while you use America Online that tells you what other users from a list you have pre-defined are online. My Buddy List to the right lets me know whether other Fools are on right now and let's me give them a quick IM ... where otherwise I would have had to go looking.
NEW TECHNOLOGICAL DEVELOPMENTS: How about AOL Phone, a feature that lets you talk via instant messages instead of type? It works with a microphone and speakers and allows people to talk over instant messages at $3 an hour -- quite a deal if you are on opposite ends of the country and normally talk at long distance rates of 10 cents a minute. Or Slide Shows, audio feeds that play while pictures fade in and out, allowing America Online to generate multimedia content.
JOINT VENTURES/STUDIO: Analysts were regaled by the new Time-Warner/America Online Products venture Thrive. Frankly, this was the weakest segment of the presentation but was helpful in highlighting the synergies possible between America Online and the Web. Thrive will be located partly on AOL and partly on PathFinder, Time-Warner's Internet service. Although the producers of the service seemed a little behind the interactive curve, for instance stressing the "innovation" of scheduled chats, it has possibilities. At the very least, the combined companies can afford to hire the massive amounts of people it will take to make all of their interactive aspects work.
America Online stressed it was shifting to the studio systems and was looking for talent, in the tradition of the dominant mediums of movies, television and radio. The America Online product studio has 300 employees here and will have 25 affiliates by the end of the year. The studio system fills a hole in America Online's content offerings -- now they have minority-owned Greenhouse, 50/50 joint ventures and now 100% owned studio ventures. When asked whether or not AOL owning its own content might make it compete with its partners, AOL exec Danny Krifcher soft-pedaled the possibility.
It is like America Online is the only network, and also owns the distribution channel and potentially the content. Great profit potential, but some possible bumps in the road. Some potential clashes between partners and AOL on the content side are a possible downside of the new studio system, and I am not sure that either side has really thought through the ramifications yet. Regardless, if they can get talent on AOL owned sites and spruce them up, it is a plus for the company -- they just need to watch out that they don't accidentally crush their more dynamic partners in the process.
ADVERTISING: This was where I really perked up. America Online has gone whole hog into the world of advertising, hiring an ex-advertising agency guy named Myer Berlow and giving him a staff of 35 dedicated people to sell ad space. A joint advertising venture with Netscape means AOL is selling daytime ad space on the top three pages on the Web -- Netscape's Home Page, America Online's Home Page and WebCrawler. This daytime space is sold in conjunction with prime-time space on AOL, emphasizing the fact that the service is a evening consumer service.
America Online has 102 screens that it is selling space on and has sold 10 in the past few weeks alone. They are minimizing the supply to get pricing power and stressed that they do not *have* to sell ads -- it is just gravy. They are selling ads per 1,000 impressions, called CPM. The pricing per CPM is $30 to $60, with some deals done above that point. These ads are the little banners spaces, like PCFN's ad on the new Quotes & Portfolios page. This ad was a one year, seven figure contract. America Online anticipates selling the remaining 92 pages in inventory in the $500,000 to $3 million one year area based on their CPM range and current subscriber base.
America Online sees the online ad market going to $1.5 to $2.0 billion by the year 2000 and wants to own at least 20% of this market by this year. They have found that America Online adds have a conversion rate of 12.5% compared to a normal direct mail conversion rate of 3%, meaning that more live targets get hit if the ad is done right. With 6 million subscribers with an average income of $68,000, these are customers that advertisers want to reach. Even small banners in the What's Hot area, another vehicle of ad sales, cost $5000 to $9500 per month, meaning that with three banners on each of the 15-plus channels What's Hot pages, you are talking $200,000 to $450,000 a month from this.
These ads are in addition to the sponsorship deals where advertisers pay to sponsor or build an area. When asked whether the regular advertising might hurt this sponsorship business, Berlow's answer was an emphatic no. America Online does best with what are called "considered purchase marketers" -- areas where you need a lot of information to make informed decisions. Stuff like cars, brokerages, insurance and the like -- big ticket items where the companies tend to have big ad budgets. With America Online holding 60% of the home audience and Netscape having 80% of the browser market, they view this as a devastating twosome. America Online wants to "rise with the tide and above it" by selling the whole medium, not just a consumer online service.
As the advertising push has only recently begun, I doubt it has been built into most analyst models for the company. Assuming an average selling price of $1 million a year, these ads could generate an additional $100 million in revenues in the next 12 months. Any ads sold on the Netscape page generate commission for AOL as well, although the motivation here is really to jointly sell advertising space and not become an advertising agency. If the Web ads can bring in $20 to $40 million and we say What's Hot banners get $200,000 to $400,000 a month, somewhere in the $100 to $200 million range for new revenues seems reasonable for the next 12 months. Assume a 50% margin on ads after all is said and done and you have $50 million to $100 million on bottom line.
MERCHANDISE: You know those annoy screens you have to click through when you sign on that are hawking some book or CD? Well, the response to those has been huge. Although it is my personal opinion that despite the high revenues generated they should give people the option to permanently turn them off, you can't knock the revenues. A Web tour CD recently generated half a million in revenues within two weeks of its debut. Assume they do one of these a week every week for the next year and you have $24 million in revenues that may not be built in the current models. A 20% margin gives you $4.8 million.
INTERNATIONAL: I'm telling you, those international services look hip. I wish the American interface looked as good as either the German or the British interface. These services are localized and written in the dominant native tongue. When asked to comment on membership growth versus CompuServe, Jack Davies, the head of the International side was to the point. CompuServe has 250,000 German customers in seven years, we have 100,000 European customers, the majority German, in less than seven months. France and Britain are just getting started, but America Online believes it will overtake CompuServe in Europe with two years -- a conservative estimate if the German trend continues. The only downside I can see here is the high cost of installing network points-of-presence overseas -- the thing that made UUNet's network so valuable.
ENTERPRISE AOL: Mark Walsh's division of America Online is focused on selling companies private America Online's, called PAOLs. Century-21, Harvard Business School and PIP Printing are the big deals that have been announced. Basically, PAOLs work well with non-corporate organizations that lack dedicated networks and franchise organizations that need to get a lot of information out to their franchisees -- thus the big wins that they have had. It costs $15,000 to $150,000 to build the area and $500 to $2500 manage the account per month -- plus the usage from the members, depending on how they do it. These subscribers from this point on don't get rolled into AOL's reported numbers, FYI, starting with Century 21.
There are about 10 PAOLs done or in the works now. If we assume they can add 15 more in 12 months with all having average start-up costs of $750,000 and average monthly maintenance of $2,000 a pop, you have $2.3 million in revenues from this over the next 12 months plus any usage. Assuming these margins are higher than the normal service margins, 30% brings $700,000 to the bottom line over the next year.
MACROMEDIA: ShockWave now works on WAOL 3.0, according to the latest press release from America Online. The significance here is not that ShockWave is the killer application to end all killer applications, but the real point is the possibility that rather than America Online being forced to move to the Web in a last-ditch, Red Dog effort, the technologies will actually converge. Does this mean all the hand-wringing over when AOL will *have* to move to the Web is overdone? I think so. I believe that if AOL is not at a $15 to $20 flat fee in two to three years, offering their branded content along with access to the Web, they have totally failed as a company. If you can discount this future at all, you are discounting a future with one network.
INTUIT: Intuit's decision to allow bank's to brand their own online banking version of their interface is classic win-win. Banks maintain their brand and Intuit can tweak the technology so that Quicken users can easily interface. Online banking is coming, although slowly due to the maze of rules that surround many banks. For Intuit, converting a Quicken user to an online banker means getting $90 a year out of them instead of something in the $20s. If America Online has half that magnitude of benefit, as it will share in transaction-based revenue, there is some money on the table here that has not been built into the analysts numbers either.
Randy Befumo (MF Templar), a Fool